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Morningstar | 5G Upside Surprise Drives FVE Increase to $80 for Xilinx; Shares Continue to Look Rich

Xilinx reported stellar third-quarter results thanks to broad-based strength across its end markets. Communications led the way, driven by 5G deployments in South Korea and the initial 5G ramp in China. Relative to prior 3G and 4G ramps, the firm has greater content in radios, basebands, and RF systems on a chip. CEO Victor Peng conceded that future generations of 5G deployment will likely see custom chips replace his company's field-programmable gate arrays in the baseband. Xilinx has also benefited from a bevy of applications in the data center, ranging from FPGA as a service to Big Data analytics acceleration and inferencing. Based on its guidance, Xilinx is poised to surpass the $3 billion threshold for fiscal 2019, which would be a record revenue level. We are raising our fair value estimate to $80 per share from $70, as Peng’s strategy of driving double-digit top-line growth via an uptick in research and development is executing very well. Nevertheless, we’d recommend prospective investors seek a wider margin of safety, given the recent volatility in the semiconductor and broader markets. Specific to Xilinx, there is a risk that the escalating tensions between the U.S. and China will result in a ban of sales to the latter’s key telecom giant, Huawei.

Third-quarter revenue rose 34% year over year to $800 million, driven by growth in each of the firm’s primary end markets. Communications grew 41% thanks to 5G strength as well as some LTE upgrades, easily offsetting an expected decline in wired. Industrial, aerospace, and defense rose 17% due to multiple defense and space programs partially offset by slightly weaker-than-expected industrial sales. Automotive, broadcast, and consumer grew 20%, led by broadcast and partially offset by consumer, with automotive flat. Data center grew 14% due to the adoption of FPGAs in computing, storage, and networking segments, with weaker cryptocurrency sales serving as an offset. Gross margins were flat sequentially at 69%.

Management expects fourth-quarter revenue to be at a midpoint of $825 million, which implies sequential growth of 3%. Fiscal 2019 sales would be up 20%. Despite this recent stretch of outperformance, we assume high-single-digit revenue growth for the firm in fiscal 2020 and beyond as we question the sustainability of such gaudy growth rates with Xilinx’s substantial amount of end-market exposure. In fact, fiscal fourth-quarter sales will be buoyed by continued growth in communications and data center, while industrial, aerospace, defense, automotive, broadcast, and consumer are all slated to be down.