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Morningstar | ST Seeks to Power Through Latest Chip Industry Slowdown; Maintain $22 FVE

STMicro reported mildly disappointing first-quarter results and provided investors with a predictably soft second-quarter forecast in light of the ongoing chip industry downturn. However, ST provided relatively bullish revenue guidance for all of 2019 that was ahead of our prior expectations and implies strong sequential growth in the second half of the year. The two main programs that may move the needle for ST appear to be rising chip content in Apple's next generation of iPhones and silicon carbide-based power semiconductors used in electric vehicle batteries, most notably at Tesla. For no-moat ST, our fair value estimate stays at $22 for the U.S. ADR while it rises to EUR 20 per local share from EUR 19 due solely to currency effects. The shares still appear modestly undervalued to us despite a 30%-plus rally in their price year to date.

ST's revenue in the March quarter was $2.08 billion, down 7% year over year and 22% sequentially in the seasonally weak first quarter, and just below the midpoint of the firm's prior guidance of $2.10 billion as discussed in January. Sales in the firm's automotive and discrete group were the relative bright spot, up 10.5% year over year with growth in chips going into cars as well as discrete power semis, again thanks to the firm's silicon carbide-based content going into Tesla. Meanwhile, as with many others in the industry, analog and microcontroller chip sales remain weak due to sluggish macroeconomic conditions. Further, the company's imaging chip business declined significantly due to an iPhone inventory correction at Apple. In turn, lower sales levels and elevated operating expenses caused operating margin to fall 660 basis points sequentially to 10.2%.

For the June quarter, ST expects revenue to rise 2.4% sequentially at the midpoint, which would represent a 6% year-over-year decline. ST foresees a bit of a bounce back in imaging, as well as ongoing auto and silicon carbide semi growth.

ST provided investors with a full-year revenue forecast of $9.45 billion-$9.85 billion, which at the midpoint implies flattish revenue compared with 2018. The forecast implies that revenue in the second half of 2019 will be 30% higher than in the first half, a sizable bounce back that was again ahead of our prior expectations. Management made a rough estimate that 35% of the recovery will come from improving market conditions. Given our current position in the chip industry cycle, a second-half rebound might be possible but is not guaranteed, in our view. We're far more optimistic regarding the flip side of management's comments that 65% of the second-half recovery will come from engaged customer programs and new product introductions. We're encouraged by the potential for company-specific contributions to ST, mainly coming from content wins within Apple's next slate of iPhones, as well as ongoing silicon carbide-based power semi demand from Tesla. ST disclosed that it expects $200 million of silicon carbide-based revenue in 2019, double what it earned in 2018.