ON Semiconductor’s Earnings Just Broke a Record: Here’s the Trade

ON Semiconductor ( ON ) released the company’s second quarter financial performance on Monday morning. The numbers posted weren’t just good, they broke records. For the three-month period ended July 1, ON Semiconductor posted adjusted EPS of $1.34 (GAAP EPS of $1.02) on revenue of $2.085 billion.

While the adjusted EPS print was good for a 112.7% year-over-year increase and the GAAP EPS print was good for a 142.9% year-over-year increase, the revenue print was not only good enough for a new record, but good enough for a 25.1 year-over-year increase %.

Beyond that, ON posted a gross margin of 49.7%, an operating margin of 28.0% (up 1,110 basis points) and a record adjusted operating margin of 34.5% (up 1,490 basis points). Free cash flow for the period fell to $202.7 million from $383.2 million in the year-ago period as property and equipment purchases more than doubled from $104.8 million to $218.1 million.

Sales performance by segment

PSG (Power Solutions Group)which makes analog, discrete, module and integrated semiconductor products… posted sales growth of 25% to $1.057 billion.

ASG (Advanced Solutions Group)which designs and develops advanced application-specific logic products… reported sales growth of 18% to $716.7 million.

ISG (Intelligent Sensing Group)which designs and develops metal oxide sensors, signal processors and photon detectors… posted a 44% sales increase to $311.3 million.

Current quarter outlook

For the company’s third quarter, ON Semiconductor sees revenue printing in a range of $2.07 billion to $2.17 billion, which on average would be good for 21.7% year-over-year growth and is up from Wall Street’s consensus view of $2.01 billion .

Gross profit margin is 48% to 50%. Total costs appear to be between $325 million and $340 million, including $6 million in special items. Adjusted EPS is forecast at $1.25 to $1.37, which moves the average price well above the $1.26 Wall Street was looking for. GAAP EPS is seen at $1.23 to $1.35.

Balance sheet

ON Semiconductor closed the period with a net cash position of $1.792 billion and current assets of $4.785 billion. These two registrations have grown significantly over six months. Inventories ended the quarter at $1.563 billion, which is above the ON Semiconductor benchmark, but not by a significant margin. Current liabilities rise more modestly to $1.713 billion, including $165.2 million in long-term debt classified as “current.” This leaves the company with a current ratio of 2.79, which is very healthy. Ex-stock, the company’s quick ratio stands at 1.88 still quite strong.

Total assets are $10.789 billion, including “goodwill” and other intangibles amounting to $2.268 billion or 21% of total assets. That’s higher than I like, but certainly not outrageous by today’s standards. Total liabilities less equity are $5.379 billion, including $3.047 billion in long-term debt. I’d like to see that number go down, but this is a clean balance sheet. ON Semiconductor will have no problem meeting short- to medium-term obligations.

My thoughts

The quarter was excellent. Cash flow is flowing. The guidance was solid. The balance sheet is in good shape. The stock closed Friday trading at 13 times forward earnings, so this isn’t an expensive equity. However, the stock sold off hard (-5.3%) ahead of Monday’s opening campaign and remained lower in early trading.

That means either that investors are seeing a glut in the automotive chip supplies that are a big part of what ON Semiconductor does. Either that, or investors expect consumers to pull back from buying and leasing new vehicles now that the economy has entered a recession. This is a distinct possibility.

These stocks have been trading on a slightly downward trading slope for most of the year. Even in Friday’s run, the stock held the upper trend line as both the Relative Strength and Full Stochastic Oscillator betrayed a technically overbought condition. Does anyone buy this dip? I think maybe one can as long as they are fully aware of where the stock is trading and where the 200 day SMA ($58) is.

As traders take profits, it will be important to see if portfolio managers intervene at or above that line. I think a cash holding investor/trader could go this way…adding to $58. That said, if the investor sees these stocks break this level, be ready to short this name, regardless of the profit/loss.

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