Some projections suggest electric-vehicle (EV) sales could reach 60% of all new car sales by 2030, up dramatically from just 1 in 6 vehicles sold in 2022, or about 17%. Investors have caught on to the trend and have invested heavily in automakers.
The problem is that the market has been flooded with automakers who are trying to capture some of this massive wave of projected EV sales. The automotive space already isn't all that profitable, and there's a good chance many investors who buy an EV manufacturer stock will underperform the stock market's performance.
That's why I continue to focus my attention on highly profitable semiconductor companies that supply the automotive industry as a top bet on the EV space. Resurgent chip designer and manufacturer ON Semiconductor (ON -1.50%) could be one of those stocks deserving of some investment dollars right now.
EV makers are just part assemblers; chip stocks own all the real tech
The automotive industry has been a highly commoditized one for many decades now. However, Tesla has achieved incredible success not only by pioneering the EV future, but also by vertically integrating its business and developing much of its own tech in-house. The resulting higher operating profit margins are the envy of automakers, and many investors have bet on new startups in the hopes of finding the "next Tesla."
I don't think there will be a "next Tesla," though, as the tech world pours money into developing the parts and manufacturing processes needed to make EVs. Put simply, there was a small window for an automaker to get out ahead of the EV boom, but that window is closing quickly, with a flood of competition entering the fray.
Semiconductor businesses are a different story, though. These companies own patents on the building blocks of tech and help pioneer new designs that lead to ever more advanced and efficient vehicles. As a result, top chip stocks remain highly profitable even in cyclical downturns, giving them the ability to continuously invest in new chips and dole out dividends and share repurchases to their shareholders.
This is the world that chip manufacturer Onsemi plays in. The company is a longtime supplier to the established automotive industry and has been investing heavily in next-gen designs like silicon carbide (SiC) in support of EV powertrains, advanced driver-assist systems, and in-car digital infotainment displays. It's been signing new supply arrangements with startups, such as a new deal it just announced with Chinese upstart Zeekr, part of auto conglomerate Geely.
In other words, Onsemi is a fantastic pick-and-shovel investment. Regardless of who wins and loses on the EV front, Onsemi will sell a lot of chips to everyone for a healthy profit.
Starting 2023 in great form
Onsemi put its financial prowess on display in the first quarter of 2023. Revenue came in at the high end of management's guidance at $1.96 billion, down 7% from the final quarter of 2022, but up 1% year over year. Automotive-specific revenue increased 38% year over year, but management said what it can supply to its customers is tapped out at the moment. New supply should come online during the second quarter, which CEO Hassane El-Khoury said should lead to a resumption of sequential automotive growth.
Automotive sales were half of Onsemi's total in Q1. Automotive plus industrial markets, which include power management chips, processors, and sensors, now account for 79% of Onsemi's total revenue, up from 65% a year ago. When El-Khoury and CFO Thad Trent took over the reins of the business in late 2020, the target was set for automotive plus industrial to account for 75% of revenue by 2025. Onsemi has indeed positioned itself well for the EV revolution, and for other renewable-energy initiatives.
Is this stock a buy now?
The semiconductor industry not geared toward automotive parts is in a slump right now. As some of its business is still exposed to currently weak consumer electronics spending, this accounts for Onsemi's sequential revenue decrease in Q1, although management is forecasting a sequential increase in revenue to at least $1.975 billion in Q2. We'll see if this results in a resumption of profit margin expansion, which has been the driving force behind Onsemi's resurgence in recent years.
Data by YCharts.
Indeed, what is impressive about Onsemi these days is that it has found ways to boost its profitability even while investing heavily into next-gen manufacturing capabilities, like those aforementioned SiC chips increasingly favored by the EV market. The management team introduced a new share repurchase program last quarter, and promptly returned all free cash flow generated in Q1 to shareholders via this up to $3 billion buyback authorization.
That being said, free cash flow is likely to be down significantly in 2023 as the company spends heavily on fab equipment for new SiC manufacturing and a new plant it purchased in East Fishkill, New York. But even as free cash flow slows to a trickle in the next few quarters, Onsemi is well positioned to keep returning cash to shareholders over the long term. Cash and short-term investments on balance at the end of March 2023 were $2.7 billion, offset by a debt of $2.5 billion. That's solid for a midsize manufacturing operation like this one. https://invetor.onsemi.com/news-releases/news-release-details/onsemi-first-quarter-2023-results-exceed-expectations
Onsemi stock trades for 19 times trailing-12-month earnings per share. I'm a buyer of this top EV supplier, though I'm taking my time and buying in small batches to take advantage of what is likely to be a very bumpy 2023, with the global economy hitting a soft patch.
