Is NXP Semiconductors Stock a Buy?

Life has been challenging for many semiconductor stocks over the last few years. Ongoing effects from the trade war between the U.S. and China paired with the pandemic have upset the applecart for many firms. NXP Semiconductor (NXPI -1.93%) is no exception. The chipmaker's auto and smartphone markets were hit hard by the pandemic in 2020, and the stock's 40% return over the last trailing-three-year stretch has underperformed the 115% return of the semiconductor industry overall, as measured by the iShares PHLX Semiconductor ETF (SOXX -3.99%).

However, while it may not be the best growth stock in the chip universe, NXP does pay a small dividend -- and could be a solid bet in 2021 as the economy gradually recovers from COVID-19.

A beatdown from lower smartphone and auto sales

NXP is best known for making connectivity chips for the automotive industry, industrial applications (factory equipment and healthcare devices), and mobile communications (smartphones and communication network infrastructure). The auto and smartphone segments make up the lion's share of sales, and autos in particular are a promising long-term market. Besides various connectivity solutions, NXP designs advanced driver-assist systems (ADAS) and battery management devices for electric vehicles. 

Image source: Getty Images.

However, these two primary segments were struggling in 2020. Stuck at home, consumer spending on vehicles and smartphones took a big plunge last spring and dragged NXP down too. As the company had yet to rally from the effects of the U.S.-China trade war in 2018 and 2019, COVID-19 was salt on an already open wound.

*Free cash flow = revenue minus cash operating expenses and capital expenditures. Data source: NXP Semiconductor.

However, NXP's sales have begun to rally as manufacturing activity in its two most prominent end markets fires up again. It still has a ways to go before it gets back to its revenue record highs -- and even further to go to reach free cash flow records -- but the company nonetheless has regained positive traction. And for a semiconductor company that is reliant on cyclical manufacturing trends, this means there could be plenty of upside left. NXP currently trades for 28 times trailing 12-month free cash flow, a reasonable valuation if its profit margins improve along with sales in the year ahead. 

An alternative bet on the auto industry

There's reason to believe NXP will in fact return to growth mode. For one thing, management forecasted as much for the 2020 fourth quarter. At the midpoint of guidance, revenue is expected to increase 8% from Q3 to $2.45 billion, and adjusted operating profit margin should be in the 29%-to-30% ballpark (compared to just 25.8% in Q3). 

NXP also doesn't have the baggage some of its peers do. Like Intel (INTC -2.40%), NXP handles both the design and the manufacture of chips in-house -- unlike many chip companies these days, which are "fabless" and completely outsource manufacturing to companies like Taiwan Semiconductor (TSM -3.45%) or GlobalFoundries. In fact, for some of its more advanced fabrication needs, NXP has a partnership with Taiwan Semiconductor, the technological leader in chipmaking and the largest chip manufacturer in the world. NXP is thus on solid footing when it comes to supplying hardware for its customers -- unlike Intel, whose recent production troubles have caused it to fall behind with its chipmaking capabilities.

This could be a key advantage for NXP as a new era dawns for autos and mobility. Since this semiconductor company is a leader in providing next-gen tech for vehicles spanning connectivity, autonomous capabilities, and vehicle electrification, NXP could be a great alternative bet on a rebounding auto industry -- not to mention a value play on emerging auto tech. The same goes for mobile technology like 5G networks. NXP has a hand in the upcoming 5G smartphone upgrade cycle, as well as in the construction of 5G networks themselves. 

Of course, the numbers demonstrate this is far from the fastest-growing semiconductor company. I expect NXP Semiconductor's stock will likely underperform the likes of NVIDIA over the course of the long-term. But NXP does pay a dividend -- it currently only yields 0.9% a year, but don't knock low-yielding payouts that have room to increase over time. For investors looking for a way to play the auto tech movement, don't write off NXP Semiconductors.