"Don't fight the tape," the saying goes. Dating back from the days when stock prices were relayed by paper tape, it means that when the broader markets are selling off, you shouldn't be buying.
In contrast, there's no saying that goes: "Don't fight the tape, especially right after your stock issues an earnings warning." For one thing, it's not snappy enough. For another, it goeswithout saying. Yet yesterday, as both the Nasdaq and Dow closed down 0.7% for the day, communications chipmaker Silicon Laboratories
After all, the news was grim. With just 10 days left in its fiscal third quarter of 2006, management reviewed its numbers and concluded: "We're not going to make it." Sales of both Aero transceivers and mixed-signal chips were both weaker than expected, and the company even hinted at an inventory glut in China. Thus, it was forced to admit that sales for this quarter would fall about 8% short of previous expectations (at $113 million to $116 million), and profits per diluted share would fare even worse. Previous predictions of $0.18 to $0.21 per share proved overly optimistic, and the firm now believes it can manage just $0.05 to $0.08.
On any other day, in any other industry, with any other company, you'd expect those kinds of numbers to spark a double-digit percentage decline in the stock. But this isn't just any other industry, or any other company. It's an industry that's still all atwitter over the private equity deal to acquire ex-Motorola
Between Silicon Labs' hefty cash cushion, the watercooler conversations about TI, and the Freescale deal's anecdotal evidence that semiconductor firms are undervalued, it seems few people are willing to part with their SLAB shares and risk missing out on a buyout premium.
Generally, I'd advise against betting on a pipe dream. But in this case, I see nothing wrong with holding onto the stock. The firm generated $61 million in free cash flow over the last 12 months. Divide that into its $1.4 billion enterprise value, and you come up with an EV/FCF ratio that's just a hair more than the firm's projected long-term growth rate of 20%. The stock looks fairly priced to me, whether an acquirer shows up and agrees with me or not.
Learn more about this volatile little stock in:
(Yes. Read them both -- they're different columns, but you'll need to click through to see why.)
Silicon Labs' strong cash flows have helped it become a three-time Motley Fool Stock Advisor pick. To see what other companies earned a spot on Tom and David Gardner's list of today's best investing opportunities, try Stock Advisor free for 30 days.
Fool contributor Rich Smith has no interest, short or long, in any company named above.