ON Semiconductor (NASDAQ:ON) reported first-quarter 2018 results near the high end of its own guidance. The stock fell, though, as expected growth for next quarter isn't as much as hoped for. Nevertheless, the chipmaker continues to benefit from rising demand, especially in the industrial sector, and thinks it still has plenty of room to run going forward.

The numbers

Metric

Q1 2018

Q1 2017

Y-o-Y % Growth (Decline)

Revenue

$1.38 billion

$1.44 billion

(4%)

Cost of revenue

$860.2 million

$933.6 million

(8%)

Operating costs

$331.7 million

$320.0 million

4%

Earnings per share

$0.31

$0.18

72%

Diluted share count

444.2 million

425.8 million

4%

Chart by author. Data source: ON Semiconductor quarterly reports. Y-o-Y = year over year.

Revenue for the quarter came in near the top of company guidance of $1.34 billion to $1.39 billion. Cost of revenue and operating costs continue to be held in check post-acquisition of Fairchild Semiconductor a couple of years ago.

Combined with a lower tax rate and less interest expense, earnings per share increased 72% year over year. That's in spite of 4% more shares being issued in the last year related to stock-based employee compensation.

Q2 guidance disappoints

Management said to expect revenue in the $1.405 billion to $1.455 billion range for the second quarter. That represents a 5% to 9% increase over last year, putting the company back in growth mode after the annual decline in the first quarter. However, it's still a slowdown from last year's big gains, when integrating the old Fairchild business was the main priority.

Operating expenses are expected to be $331 million to $351 million, including one-time special items, leading to a 2% decline to a 4% increase over a year ago. That's good news as slower growth in expenses than in revenue should equate to higher profitability. It will also help pay some of the costs ON said to expect this year as it invests in increased manufacturing capacity (more on that below).

Another positive in the outlook: ON put its share repurchase program back in place. That should help offset that employee stock-based compensation mentioned above. Management said it sees its own shares as a good long-term investment of cash at current valuations.

An artist's rendition of the Internet of Things, common everyday items at work and at home getting hooked up to the internet with semiconductors.

Image source: Getty Images.

The future is connecting everything

Propelling the Internet of Things as of late have been industrial companies, most notably the auto industry. ON said sales to automakers increased 8% year over year and made up 32% of revenue. Power management and driver assist technology led the way forward.

Other end markets like military, aerospace, and medical grew 11% and were 26% of revenue. Computer vision technology is growing fast and represents a big opportunity for ON down the road. Giving equipment the ability to "see" is finding a wide range of applications, and ON is a leader in that emerging technology.

As for increased expenditures related to manufacturing expansion, management said that demand for its products has been hard to keep up with. It doesn't see that changing anytime soon as connected things become the rule rather than the exception. CFO Bernard Gutmann had this to say about it:

We have established ourselves as a strategic long-term partner for our customers, and our customers are increasingly relying on us to meet long-term demand for power management and sensor semiconductor products. With increasing strategic engagement with us, many customers are now asking us to enter into long-term supply agreements. Accelerating long-term demand for our products, and customer requests for long-term supply agreements necessitate us to increase level of investment in our manufacturing capacity. 

In short, management sees growth continuing as demand for its primary industrial chip segment only gets stronger. This first-quarter report and guidance for the next one were a slowdown from previous quarters, but the growth story at ON remains intact. The fact that the company is expanding operations to keep up with demand is a positive sign that all is well at ON.

Nicholas Rossolillo and his clients own shares of ON Semiconductor. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.