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Morningstar | Cypress Delivers Record Revenue in 2Q; Maintain $14 FVE

Cypress Semiconductor announced second-quarter results which marginally exceed our expectations for both revenue and adjusted earnings. The firm has been well-placed to benefit from growing Internet of Things applications while the broad product portfolio has allowed the firm to grow faster than the addressed end-markets. We also have a favorable view of management's continuing transition away from consumer products to the higher-margin end markets of industrial and automotive. We believe the firm, despite lacking an identifiable moat, is poised to continue to grow amid the broader secular trends toward connectivity. That said, we think the market is overpricing the opportunities currently available to Cypress. After incorporating the outlook for the third quarter, we maintain our fair value estimate of $14 for the no-moat firm. Shares are currently priced at a premium, in our view.

Second-quarter revenue was $624 million, a 5% increase year over year and 7% sequentially. Sales from microcontroller and connectivity products improved 2% year over year while demand for memory products remained strong, delivering nearly 10% growth over the same period. Memory products accounted for 41% of sales and roughly half of flash specific revenue came from automotive customers as demand increases for mission-critical data storage capabilities. Adjusted gross margins rose 40 basis points sequentially and 540 basis points year over year to 46.3% as the shift away from consumer remains on track. To illustrate, sales from the automotive end market within wireless connectivity products accounted for 20% of revenue during the quarter, up from just 10% in 2016. In general, consumer sales account for 31% of total revenue with industrial and automotive sales accounting for 50%. We are encouraged by this speedy transition away from the consumer market with its shorter product cycle lives to the more "sticky" and higher-margin products in automotive and industrial applications.

Management believes demand for memory and MCU products will remain strong going into the third quarter, with a book/bill of 1.04. Revenue is expected to be at $670 million at the midpoint, an increase of 10% year over year. We believe the firm's design win pipeline for in-body automotive products will drive long-term growth while Cypress' NOR and RAM sales should grow as the memory demands of ADAS and fully-autonomous vehicles increase.