Silicon Motion Technology (SIMO 0.58%) is having a dramatic year. As if the nastiest consumer electronics downturn since the dot-com bubble weren't bad enough, it's also contending with legal issues after fellow chip designer MaxLinear (MXL -0.43%) pulled the rug out from under a merger between the two businesses this past summer. SiliconMotion is in litigation to recoup losses and get a merger termination fee from MaxLinear.
All the ups and downs aside, though, this tiny chip stock could be a big winner from a new era of AI-fueled computing. Here's what investors need to know.
A top way to play the memory chip revolution?
As you may have heard, AI (specifically generative AI) is becoming a pretty big deal. Nvidia is selling billions of dollars' worth of AI computing systems every single quarter.
At this point, most of that AI work is being done in data centers. But many chip companies are preparing to bring at least some of that work out of the data center and onto devices -- specifically, the "inference" part of AI, which is where the real work is done after the AI is trained. Qualcomm in particular has been talking up its new smartphone and laptop chips coming in 2024, which will be able to handle some of this AI work for the device user.
But to pull it off, PCs and smartphones are going to need more and higher-performance memory. This is where SiliconMotion comes in. It's the global leader in SSD (solid-state drive) memory controllers for PCs and smartphones, with a smaller but growing presence designing these chips for data centers, autos, and other computing systems.
An SSD controller is a small high-performance chip that acts as an interface between memory (in this case SSD memory chips) and the rest of the computing system.
As you'd expect, SiliconMotion got hit hard by the bad year PCs and smartphones just had, just like all other chip companies that sell parts to this large market. However, after more than a year spent trying to get excess inventory worked off (a result of the pandemic-era spending spree on electronics coming to an abrupt end in 2022), SiliconMotion has joined other companies like Qualcomm, Intel, and AMD in signaling a rebound is coming.
Data by YCharts.
Though financials remain well below their all-time peaks in 2022, Q3 2023 revenue and profitability notched solid sequential increases. Revenue was up 23% from Q2 2023 to $172 million, and GAAP operating income was up to $15 million, compared to just $1.8 million in Q2.
Management is confident the worst of the downturn is in the rearview mirror, setting the stage for a far more stable 2024 as buzz about on-device AI starts to heat up.
How reasonable a value is the stock?
It would be too soon to assume SiliconMotion will rocket back to its all-time highs in 2024. Management declined to provide any specific guidance given the many moving parts at work in the PC and smartphone market right now. If we annualize Q3 2023 earnings per share (EPS, Q3 annualized rate of $1.28), SiliconMotion trades for a price-to-earnings multiple of 45. Is that reasonable?
I think it could be. For one thing, the company will begin lapping depressed financial results in 2024, and has indicated its profit margins will be on the rise again. It's also rolling out new SSD controllers for its memory chip, PC, and smartphone manufacturing partners. New product introductions require sizable cash outflows, but those will ease as 2024 progresses.
And SiliconMotion has also said some of its customers that pulled back on using its products during the pending MaxLinear acquisition (due to uncertainty, as SSD controllers would have been a new market for MaxLinear) are now reengaging. That also bodes well for a steady SiliconMotion rally next year.
Of course, with an enterprise value (market cap plus debt, minus cash and short-term investments) of just $1.6 billion, SiliconMotion could be a risky bet. It has ample competition, from semiconductor industry heavyweights as well as some internal solutions from its very own memory chip customers. Bringing superior products to market will be the key for the company to sustain its comeback.
But SiliconMotion's current valuation may not be fully reflecting upside next year if a solidifying PC and smartphone market is the base-case scenario, bolstered by new on-device AI capabilities.
I added a small SiliconMotion position to my basket of small-cap stocks earlier this year, given that it had weathered an awful downturn for a year and remained profitable doing so. Bigger semiconductor names remain my primary investments in this arena, but SiliconMotion could nonetheless be a hidden winner from a new era of AI.
