Can Synaptics Outperform in 2018?

Another bearish year is coming to an end for Synaptics Inc. (SYNA, Financial). The stock rose 16% during the first half of 2017 while shedding 37% of its market cap since then. Declining revenue during the last four quarters might be the reason for Synaptics’ decline this year. The company also witnessed sequential decline during 2016, losing 25% of its market cap during the process.

The sell-off in 2017 isn’t justified as things are not the same as they were back in 2016. During 2016, the company was losing year-over-year revenue and sequential revenue, which reflected in the share price. In contrast, Synaptics witnessed year-over-year growth in almost every quarter during 2017. See the revenue chart below.

The market seems fixated to sequential revenue decline while Synaptics continue to recapture year-over-year growth. That’s why Synaptics can be a rewarding stock going into 2018.

I was also bullish on Synaptics at the start of second half of 2017. That turned out for the worse as the company lost 23% of its market capitalization. However, there wasn’t any fundamental driver for the downward pressure on Synaptics. Things look good for Synaptics now as they were at the start of the second half of 2017.

What are the goods?

Industry is set to grow. Synaptics holds a leading position on several growth fronts, and valuation is dirt cheap.

Regarding industry, IoT market is expected to grow 15% p.a. during the next five years, according to IDC. Moreover, Fingerprint sensor market is forecasted to grow at more than 30% during 2016-2020. Synaptics continues to be the leading market share holder in mobile touch and mobile display. The company has a first movers’ advantage in TDDI market, which is set to grow at more than 70% during 2016-2020.

Moreover, the stock is trading quite cheaply from any valuation vantage point. Forward PE is hovering around 10, which is quite low given PE of around 25 for S&P 500. Absolute valuation measures like EVA also reveal a favorable picture for Synaptics. See the excerpts from previous reports below:

**Relative Valuation April 06 2017, featured on GuruFocus

The valuation is based on a consensus EPS of $5.2, which shifted down to $4.25 as of the time of this writing. Lowest earnings estimate increased from $3.6 to $3.97. Projected price target based on the revised consensus earnings comes around $70, which is materially above the current price of $40. Using the lowest estimate of earnings for 2018, price target is $66.7.

**Economic Value Added Valuation, April 28, 2017, featured on GuruFocus

The EVA valuation above is adjusted for earnings consensus downgrade and interest rate hikes, and it looks like this now.

Focus Equity Estimates

Revised valuation reveals an upside of more than 40% for Synaptics. Note that revised valuation is based on consensus earnings for 2018 and 2019. Other assumptions include:

• Earnings are expected to grow 10% during 2020 to 2023, which is based on weighted average industry growth in the fingerprint sensor market and Synaptics’ serviceable addressable market.
• Cost of equity is based on the risk-free rate and the balance of money circulation.
• No dilution is assumed in outstanding shares as Synaptics is consistently buying back stock.

Why did the market punish Synaptics in 2017?

Market was focused on sequential decline for the year; revenue certainly declined. The company posted revenue of $461 million during the quarter ending January, 2017; it came down to $417 million during the quarter ending September, 2017.

Moreover, the risk of increasing number of suppliers in the TDDI space was also a concern among investors that negatively affected the stock price of Synaptics. During 2017, several analyst downgrades especially from Rosenblatt and Mizuho took a toll out of Synaptics. Pac Crest’s comment regarding Apple (AAPL, Financial) dumping Synaptics negatively reflected on the stock price during the year. Overall, most of the decline in price was driven by signals rather than fundamentals.

What is the thesis now?

The industry is set to grow. Synaptics remains a first mover in TDDI. Fingerprint is another area where Synaptics will gain market share due to its in-display fingerprint sensors. Moreover, the company consistently posted year-over-year growth during 2017, which is an indication that fundamentals continue to recover.

Furthermore, analyst sentiment is finally taking a turn for the good. Cowen, Stifel and Oppenheimer are bullish on Synaptics. Cowen increased the price target from $53 to $58 after Synaptics’ investor day on 12th December. Cowen believes that the stock is significantly undervalued. Stifel notes that addressable market for Synaptics increased 30% amid recent acquisitions.

Another positive for Synaptics is in-display fingerprint senor market. In-display fingerprint sensor of Synaptics is in mass production phase at one of the top 5 smartphone OEMs. It is worth mentioning that Synaptics is the first mover in the space. Qualcomm (QCOM, Financial) is also developing a similar sensor but it seems that Qualcomm isn’t ready for mass production just yet. Upcoming flagships will probably feature an in-display sensor from Synaptics in order to make smartphones as bezel-less as possible. The bottom line is that Synaptics remains a buy going into 2018.

Disclosure: I have no positions in any stocks mentioned and no plans to initiate any positions within the next 72 hours.