Synaptics (SYNA 5.23%) stock has been setting the market on fire over the past six months, but Apple's (AAPL 2.56%) update this week that accounted for the impact of the novel coronavirus outbreak has given Synaptics a mild setback. The iPhone maker reduced its revenue guidance for the second quarter as the temporary shutdown of many of its partner stores in China related to the outbreak will impact Apple sales in the near term.
Apple also added that it is witnessing a slower-than-expected ramp-up in its supply chain. Not surprisingly, Synaptics shares have pulled back in recent sessions because of its supplier relationship with Apple. But a closer examination of what appears to be a short-term negative situation suggests this could be an opportunity for investors looking for a long-term positive smartphone play.
Why do I think that? Well, for one thing, this developer of human interface solutions delivered blowout fiscal 2020 second-quarter results this month that sent its shares flying to a new 52-week high. And the smartphone space is about to witness a major shift toward fifth-generation (5G) devices and Synaptics could be a beneficiary of the same.
More importantly, Synaptics' latest quarterly report provides a few indications that its terrific run on the stock market could be sustained despite the short-term challenges that the coronavirus outbreak might present. Let's take a closer look as to why that might be.
What's working for Synaptics?
Synaptics delivered $388.3 million in revenue for the second quarter, which was well above the higher end of its own guidance range of $345 million to $365 million. Wall Street expected the company to clock $354.9 million in revenue during the quarter. Its earnings of $2.04 per share also exceeded the higher end of its guidance range by a huge margin, easily beating the consensus estimate of $1.45 a share.
Explaining the reason behind the company's outperformance, Synaptics CEO Michael Hurlston said, "Our December quarter was better than expected due to unusually strong demand for our PC products and from our largest mobile customer during the holiday season."
According to Gartner, PC shipments in the fourth quarter of 2019 jumped 2.3% year over year. For some perspective, overall PC market growth for the entire year stood at 0.6%, indicating that PC demand remained strong during the holiday period. This worked in Synaptics' favor as the company gets 21% of its revenue by supplying touchpad modules and fingerprint sensors.
However, Synaptics warns that the strength of its PC business might not be sustainable after the unusual pop it witnessed during the holiday season. That's not surprising as strong PC sales at the end of 2019 were driven by enterprise upgrades to the Windows 10 platform. Synaptics points out that Microsoft ended Windows 7 support in mid-January, and this forced corporates to upgrade their machines.
With that tailwind now in the rearview mirror, Synaptics' PC business could lose some steam in subsequent quarters. But that shouldn't discourage investors from putting their money into Synaptics stock as it can easily offset any slowdown in the PC business with a new catalyst in the mobile business that supplied 56% of its revenue last quarter.
A big mobile catalyst could be in the cards
Hurlston pointed out on the latest earnings conference call that its largest mobile customer placed unusually strong orders. "[W]e saw unusual strength and demand from our largest mobile customer in the December quarter, and that strength continues into this quarter," he said.
The company didn't explicitly name this customer, but there's a hint of who this client could be. Synaptics' largest customer supplied 21% of its total revenue during the quarter that ended in December. At the end of the June quarter, this particular customer accounted for less than 10% of the company's total revenue.
This indicates that Synaptics' largest customer significantly ramped up its output in the second half of 2019. That suggests the customer is likely Apple. First, Apple would have started the production ramp of its latest generation iPhones around the middle of 2019, which is why its influence over Synaptics' top line grew as the year progressed. Second, Synaptics' statement that it saw "unusual strength and demand" from its largest mobile customer last quarter is another indicator that the iPhone maker is its largest customer. That's because Apple reportedly ramped up iPhone production by an additional 8 million units in the final quarter to meet demand.
This bodes well for Synaptics as Apple is reportedly going to use OLED displays across its entire iPhone line-up this year and ditch LCD displays. This is the reason why it is widely believed that Synaptics will be a supplier to Apple for this year's iPhone line-up, thanks to 5G implementation.
Wedbush Securities predicts that Apple could build 100 million units of the next-generation iPhone this year compared to the 80 million orders it placed for the iPhone 11 in 2019. If all these orders are for the OLED-equipped iPhones, Synaptics could win big as it is already specializing in OLED display sensors that can support high screen refresh rates of 90 hertz and 120 hertz.
Moreover, Synaptics is already in the process of divesting its mobile LCD touch and display driver integration business as it wants to focus on the higher-margin OLED display business. This is another indication that the chipmaker could be preparing to ramp up the supply of OLED-focused chips to take advantage of an anticipated turnaround in Apple's fortunes.
A good time to buy
All in all, don't be surprised to see Synaptics' mobile business take off in 2020 thanks to potential gains from Apple later this year. Moreover, as the trend of smartphones equipped with OLED displays gains momentum, the company's addressable market could expand.
According to a third-party estimate, the global flexible OLED market could grow at an annual pace of 42% through 2025, driven by the application of the technology in smartphones and other devices. Synaptics looks like a good bet to take advantage of this technology right now.
The stock trades at just 18 times on a forward earnings basis compared to a trailing price-to-earnings (P/E) multiple of nearly 52. This means that analysts expect Synaptics to deliver robust earnings growth in the future, which is why it could remain a top growth stock even after rallying impressively in the past few months.