The semiconductor industry on the whole is having a tough year in 2023. High inflation and rising interest rates forced consumers to cut back on spending and some big-ticket electronics are getting slashed from household budgets. Even one of the world's largest chipmakers, Advanced Micro Devices, saw its revenue decline in the recent first quarter and analysts don't expect it to grow for the full year, either.
This tough economic climate won't last forever, and investors with an eye on the long term might find attractive opportunities in chip stocks right now. Cohu (COHU -0.03%) is one of them. Despite a contraction in its first-quarter revenue, it remains on track to achieve some impressive results according to its guidance for the next three to five years. Here's why the stock is a buy now.
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Cohu's equipment is key to the production process
Cohu doesn't manufacture chips directly. It makes testing and handling equipment used in the production process. These products are key to quality control, weeding out defective units to ensure end-users receive functional hardware.
Semiconductors continue to become more complex because they need to be smaller than ever while also delivering more output. As a result, it can take a longer period of time to inspect, test, and handle them to an appropriate standard. That's where Cohu comes in; its Neon inspection system can process chips as small as 0.2 millimeters by 0.4 millimeters at speed for maximum operational efficiency.
The company also uses true infrared technology paired with artificial intelligence (AI) algorithms in the inspection process, which can identify cracks as small as 5 micrometers and automatically differentiate harmless scratches from structural defects. For perspective, a human hair is typically 70 micrometers thick.
Speaking of AI, Cohu also has a leadership position in thermal handlers designed to regulate the temperature of high-performance CPU and GPU hardware under testing. Such chips are often used in data centers to train AI models and for cloud computing workloads.
Cohu's revenue shrank in Q1, but its long-term trajectory looks promising
Cohu generated $179.4 million in revenue during the first quarter, which came in at the midpoint of its guidance. But it marked a 9.3% decline compared to the same period last year. The semiconductor industry tends to be cyclical, which means customers invest heavily in upgrading their infrastructure during strong economic periods and then scale back when conditions are less certain.
The company managed to maintain profitability, though, delivering $26.9 million in non-GAAP net income, which translated to $0.56 in earnings per share. While that was a decline year over year, the result was stronger than the $0.54 per share Wall Street was expecting.
But the medium to long term is where Cohu could really shine. At the end of 2021, the company issued a forecast covering the next three to five years, estimating it would deliver an average of $1 billion in annual revenue with $4 in non-GAAP earnings per share. Those numbers help investors smooth out the impacts of the chip industry's cyclical nature.
Since Wall Street analysts predict Cohu will deliver $698 million in revenue and $1.92 in earnings for 2023, those metrics stand to grow 43% and 108%, respectively, over the next few years based on the above guidance.
Why Cohu stock is a buy now ahead of that future growth
The broader market is still trading in bear territory with the technology sector particularly downbeat, and Cohu stock remains 31% below its all-time high.
Based on the company's $2.81 in trailing-12-month earnings per share and its current stock price of $34.46, it trades at a price-to-earnings (P/E) ratio of 12.2. That's a significant discount to the 26.7 P/E ratio of the Nasdaq-100 index, and it implies Cohu stock will have to more than double just to trade in line with the broader technology sector.
There's no guarantee that will happen in the short term, given the company's core financial metrics like revenue and earnings are declining (investors don't like paying a premium for shrinking businesses). But if Cohu's financial forecast for the longer term plays out, its current stock price looks like an absolute bargain.
