This Acquisition Can Take Analog Devices to New Highs

This acquisition seems like a perfect fit for this diversified semiconductor player, and could take it to new highs.

Jul 16, 2014 at 12:30PM

There's no denying the fact that the U.S. automotive market is on a roll. After vehicle sales rose to six-year highs in 2013 with sales of 15.6 million units, 2014 is turning out to be even better. In the first half of the year, 8.2 million vehicles were sold in the U.S., an increase of 4.3% from the same period last year. Moreover, in June, the annualized selling rate jumped to 16.98 million, the highest since July 2006.

It is not just auto companies that are benefiting from this growth. Even chipmakers have cashed in on this trend as vehicles get more advanced and are equipped with more technology. Analog Devices (NASDAQ:ADI) is one such semiconductor company which has trained its sights on the resurgent auto market. It recently announced the acquisition of Hittite Microwave (NASDAQ:HITT) to bolster its position in automotive, along with other verticals. 

Automotive growth in the cards
Automotive is a key business for Analog, accounting for 20% of total revenue in the previous quarter. In fact, this segment was up 10% year-over-year in the second quarter, driven by increasing content and growth in vehicle sales. The increasing usage of radar-based advanced driver assistance systems for collision avoidance, along with powertrain and start/stop applications, has been a key driver of Analog's auto business.

This is leading to an increasing usage of chips in vehicles, and the trend looks set to continue. For example, Ford plans to equip 70% of its U.S. models with start/stop technology in the next three years. Additionally, Analog is partnering with several vehicle manufacturers to develop safe, smart, and fuel-efficient vehicles. It is targeting automotive applications across markets in North America, Europe, and Asia with its signal processing technology.

As such, the acquisition of Hittite Microwave will allow Analog to improve its offerings and gain more traction in the auto market. Analog has paid a premium of 29% for Hittite, acquiring it for $2 billion to gain access to technology used for blind-spot detection and automatic emergency braking.

Industrial benefits
Automotive is one of the many verticals that will benefit as a result of this acquisition. Hittite is known for its strong presence in military and satellite communications, expanding Analog's avenues. Additionally, it acquired Keragis Corporation recently, which provides high-powered wide band amplifier modules. 

After this acquisition, Hittite believes that it is well-positioned to address applications such as military radar, weather radar, air traffic radars, etc. Keragis will allow Hittite to upgrade older technology such as tube amplifiers by building solid-state amplifiers into new systems. As a result, its customers will see an increase in reliability and performance over existing tech.

Clearly, in addition to the automotive market, Hittite will improve Analog's standing in industrial as well, which is its biggest segment. Analog expects the industrial market to improve as demand for intelligent, connected, and energy efficient products is slated to increase. The company is seeing strong order activity among its industrial customers as improving macroeconomic conditions are driving capital spending. 

Communications: Another catalyst
Finally, Hittite is benefiting from growth in telecom infrastructure because of LTE deployments in China and the U.S. Now, communications is Analog's fastest growing business, delivering a 25% year-over-year jump in the previous quarter, contributing 22% of total revenue. As such, the acquisition is a good fit for the communications business as well, since Analog itself cites growth in these two markets as a catalyst.

The deployment of base stations is China is working to Analog's advantage, enabling it to increase sales at a faster-than-expected rate in communications. This market should continue doing well as China Mobile (NYSE:CHL), China's largest telecom operator, is aggressively rolling out more base stations.

At the end of last year, China Mobile had deployed 200,000 base stations. This year, the telecom giant intends to roll out another 350,000 base stations in order to cover almost 350 cities with its TD-LTE network. In fact, it is estimated that China Mobile will end up spending around $13.4 billion this year to expand its LTE network. Hence, the opportunity in the communications market is big, and Analog seems to have strengthened its position here with the Hittite acquisition.

Final words
From automotive to industrial to communications, Analog Devices has boosted its expertise in all areas with Hittite. The company expects that the deal will increase its adjusted profit by 4%-6% in the fourth quarter, helped by Hittite's higher margin profile. All in all, Analog Devices is now a better investment, especially considering that it has an impressive dividend yield of 2.70%, trades at a cheaper P/E ratio of 24 as compared to the industry average of almost 35, and has a diversified business.

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Harsh Chauhan has no position in any stocks mentioned. The Motley Fool recommends China Mobile and Ford. The Motley Fool owns shares of Ford. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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