Is Fairchild Semiconductor Destined for Greatness?

Investors love stocks that consistently beat the Street without getting ahead of their fundamentals and risking a meltdown. The best stocks offer sustainable market-beating gains, with robust and improving financial metrics that support strong price growth. Does Fairchild Semiconductor (NASDAQ: FCS  ) fit the bill? Let's take a look at what its recent results tell us about its potential for future gains.

What we're looking for
The graphs you're about to see tell Fairchild's story, and we'll be grading the quality of that story in several ways:

  • Growth: Are profits, margins, and free cash flow all increasing?
  • Valuation: Is share price growing in line with earnings per share?
  • Opportunities: Is return on equity increasing while debt to equity declines?
  • Dividends: Are dividends consistently growing in a sustainable way?

What the numbers tell you
Now, let's take a look at Fairchild's key statistics:

FCS Total Return Price Chart

FCS Total Return Price data by YCharts.

Criteria

3-Year* Change

Grade

Revenue growth > 30%

(5.6%)

Fail

Improving profit margin

(96%)

Fail

Free cash flow growth > Net income growth

(78.6%) vs. (96.2%)

Pass

Improving EPS

(96.5%)

Fail

Stock growth (+ 15%) < EPS growth

30.6% vs. (96.5%)

Fail

Source: YCharts. *Period begins at end of Q2 2010.

FCS Return on Equity Chart

FCS Return on Equity data by YCharts.

Criteria

3-Year* Change

Grade

Improving return on equity

(97.1%)

Fail

Declining debt to equity

(54.8%)

Pass

Source: YCharts. *Period begins at end of Q2 2010.

How we got here and where we're going
Fairchild limps to the finish line with a mere two out of seven passing grades. Few of the company's core financial metrics have moved in the right direction over the past few years, but earnings and free cash flow -- though still positive -- are slipping dangerously close to unprofitable territory. Will Fairchild be able to move past its problems, or is the chip maker going to short out? Let's dig a little deeper.

Chip manufacturers such as Fairchild and Texas Instruments have been struggling to boost their revenue growth in a brutally competitive environment where PCs appear to be on the decline, but smartphones are beginning to top out. On the other hand, uncertain economic conditions have weakened profit margins despite increasing demand for tablets and smartphones.

Razor-thin margins have already pushed industry peer Texas Instruments out of the smartphone processor space; the company will now leverage weak competition and better margins in the industrial appliance chips market. Unfortunately for Fairchild, that adds greater competitive pressure to one of its most important markets -- the company's industrial, automotive, and power conversion segment comprised nearly half of its 2012 revenue.

On a more positive note, my Foolish colleague Sean Williams notes that Fairchild has been successful in reducing its operational expenses, particularly following a 15% workforce reduction in 2011. These cost savings permitted the company to spend more on its research and development, which has contributed to the 15% year-over-year growth in industrial appliance chip sales in the latest quarter.

Putting the pieces together
Today, Fairchild has few of the qualities that make up a great stock, but no stock is truly perfect. Digging deeper can help you uncover the answers you need to make a great buy -- or to stay away from a stock that's going nowhere.

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