Companies have begun reporting their financial results for the first quarter of 2022. It's a crucial period for investors as pandemic restrictions continue to fade and the Federal Reserve begins to raise interest rates to combat high inflation.
Cohu (COHU -2.24%) is a semiconductor-service company that provides critical manufacturing equipment to the world's largest chip producers. It's coming off the strongest two-year period in its history, and its Q1 2022 results suggest this year might be about consolidation rather than growth.
But the signs point to a bright future ahead. Here's why investors should take advantage of the 47% discount in its stock price right now for a long-term hold.
Set up for success
The semiconductor sector suffered the effects of production shutdowns over the last two years because of lockdowns across Europe and Asia, but it led to demand backlogs that allowed chip companies to raise prices. Overall, this ended up being extremely positive for the industry with record-high revenue and profits across the board.
Although those unique market features have begun to resolve, Cohu finds itself with the largest demand backlog on record because it continued to win new customers into the closing stages of 2021.
Cohu makes testing and handling equipment for semiconductor producers. Its defect detection technology uses true infrared to see through silicon and artificial intelligence-powered algorithms to identify cracks as tiny as five micrometers. Its AI learns over time to distinguish between harmless cosmetic issues and detrimental defects to ultimately speed up the experience.
In an environment where demand for advanced chips is soaring, Cohu's equipment and services are essential for semiconductor producers that need to expand manufacturing capacity. Industries like automotive manufacturing are using more computing power than ever to deliver digital features and sensors inside vehicles. That segment is now Cohu's second-largest behind mobility, which relates to mobile devices and the 5G network.
Long-term growth is strong but slowing for now
Cohu delivered a record-high $887 million in revenue and $3.20 in non-GAAP earnings per share during 2021. It prompted the company to lift its midterm financial goals, now anticipating an average of $1 billion in revenue and $4.00 in earnings per share annually, on average, over the next three to five years.
But the company's Q1 2022 result showed a moderate contraction in sales of 12% and a contraction in non-GAAP earnings of 25%. However, both of these metrics remain significantly above their pre-pandemic levels.
It's possible that over the next few years the semiconductor industry won't see the powerful, accelerated growth rates it saw during the pandemic. But it's also possible that growth will still remain elevated from pre-pandemic levels, because chips are in greater demand than ever before, thanks to the speed with which technology is moving forward.
Cohu stock is cheap
It has paid to be invested in the broader semiconductor sector over the past five years. The iShares Semiconductor ETF has consistently outperformed the S&P 500 stock market index, more than doubling its five-year return on the back of the pandemic.
Cohu is a minnow in the industry with a market value of just $1.3 billion. It has outperformed the S&P 500 over the last three years but underperformed longer term. Given the company's goals and the demand for its products, it's reasonable to believe Cohu could extend its three-year streak into the future.
Cohu stock currently trades at a price-to-earnings multiple of just 8.9 based on its trailing 12-month results, a 59% discount to the iShares Semiconductor ETF, which trades at a multiple of 22.
The discount might be warranted this year, given that revenue and earnings are likely to contract slightly based on analysts' expectations, but both metrics are expected to return to growth in 2023. By that time, it's possible the current discount in Cohu stock might have evaporated.
In fact, the average price target for Cohu stock on Wall Street is $40.17 right now, representing 51% upside from where it trades today.
Investors could be best-served buying the weakness in Cohu stock now and holding for the long term while the company works toward its midterm financial targets. When it reaches them, there could be significant gains on the table.