Is Fairchild's Rally Over?

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Predictably, Fairchild Semiconductor's (NYSE: FCS) third-quarter results came in ahead of analyst estimates. Like other semiconductor companies, it benefited from improving customer demand and inventory restocking. This led to a sequential increase in sales and profit margins.

Fairchild had third-quarter sales of $331.8 million, up 19% percent from the second quarter, but down 23% from the third quarter of 2008. The company reported adjusted net income of $14.9 million or $0.12 per diluted share, which was up from a loss of $0.03 per share last quarter and $0.06 per share better than analyst estimates.

Management noted that "order rates were solid throughout the quarter across a broad range of end markets, enabling us to increase our backlog position from a quarter ago." The company now expects to have fourth-quarter sales of $333 million to $343 million.

Despite the company's better-than-expected third-quarter results and bullish outlook for the fourth quarter, the market was not impressed. Fairchild's shares fell by more than 9% on the news.

What spoiled the party?

The answer is twofold. First, industry heavyweight Intel (Nasdaq: INTC) already raised the expectations bar for the semiconductor industry with its strong third-quarter report. Second, Fairchild's third-quarter gross margin was 26%, up from 23.2% in the second quarter, and management anticipates a fourth-quarter gross margin of 28% to 30%. While that should be a positive for Fairchild's business, it may not be for its stock price. That's because Fairchild's gross margin has peaked around 30% in the last five years. The company appears to be running a lean operation, and now comes the tricky part of growing revenues and growing revenues back to pre-crisis levels.

Lastly, Fairchild is trading at 13.6 times next year's consensus earnings estimates. While this P/E multiple is relatively low when compared to its peers, it does leave little room for error for a company that will have a difficult time expanding its profit margins in 2010.

Company	CAPS	Forward P/E	5-Year EPS Growth %
Analog Devices (NYSE: ADI)	****	21.7	15.0
Fairchild Semiconductor	***	13.6	-2.6
Linear Technology (Nasdaq: LLTC)	****	18.5	14.8
National Semiconductor (NYSE: NSM)	**	16.1	9.4
Texas Instruments (NYSE: TXN)	***	14.9	12.6

Source: CAPS and Yahoo! Finance.

Add in uncertainty about future growth, and Fairchild looks to have gotten a bit ahead of itself. Any Fools beg to differ? Drop a line in the comments box below.

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