Automotive And Industrial Pressures Will Spur Cautious Recovery

Key Takeaways

• Revenue pressures continue as core markets underperform, with risks to margins from underutilized capacity and elevated inventory levels.
  
• Capital expenditure priorities may suppress free cash flow growth while the industrial and automotive market focus heightens revenue growth uncertainties.
  
• Focus on manufacturing efficiency, strategic investments, and product diversification positions Texas Instruments for sustained growth in revenue and earnings.

Catalysts

Designs, manufactures, and sells semiconductors to electronics designers and manufacturers in the United States, China, rest of Asia, Europe, Middle East, Africa, Japan, and internationally.

• Revenue projections appear subdued as Texas Instruments faces modest declines in its two largest markets, industrial and automotive, which together account for 70% of total revenue. This combined with a forecasted decline of up to 3% for the next quarter suggests continued pressure on sales growth.
  
• The company is experiencing significant underutilization of factory capacity, particularly at its LFAB facility, which disproportionately impacts the Embedded business. This underutilization, coupled with increasing depreciation, is expected to result in further gross margin erosion, which decreased by 190 basis points in the fourth quarter and is anticipated to decline by a few hundred more basis points in the next quarter.
  
• Elevated inventory levels, with days up to 241 from the previous 231, alongside softer end-market demand, indicate potential obsolescence risks and could further pressurize net margins if these inventory levels don't align quickly with a demand recovery.
  
• Texas Instruments' ongoing elevated capital expenditure, nearly 70% through a six-year capital expenditure cycle projected to cost $4.8 billion alone in 2024, while aiming to address future 300-millimeter production needs, may suppress free cash flow growth in the short term, particularly as current free cash flow has fallen to 10% of revenue.
  
• The company's concentrated focus on industrial and automotive markets for growth, which have not yet bottomed out, could result in below consensus revenue growth if the anticipated cyclic upturn is delayed or weaker than expected, further impacting overall earnings and free cash flow as these areas represent significant revenue share.

Texas Instruments Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Texas Instruments compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Texas Instruments's revenue will grow by 6.5% annually over the next 3 years.
• The bearish analysts assume that profit margins will shrink from 30.5% today to 29.2% in 3 years time.
• The bearish analysts expect earnings to reach $5.5 billion (and earnings per share of $6.01) by about April 2028, up from $4.8 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 36.2x on those 2028 earnings, up from 32.3x today. This future PE is greater than the current PE for the US Semiconductor industry at 20.3x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.21%, as per the Simply Wall St company report.

Texas Instruments Future Earnings Per Share Growth

Risks

• Texas Instruments anticipates secular growth in the industrial and automotive markets due to an increase in chip content per application, which is expected to drive faster revenue growth, positively impacting revenue.
  
• The company's focus on 300-millimeter manufacturing and investment in manufacturing capacity is likely to result in a more efficient cost structure, enhancing profit margins and free cash flow per share.
  
• Texas Instruments maintains strong financial health with a robust balance sheet, including $7.6 billion in cash and short-term investments, which provides a cushion for strategic investments and shareholder returns, supporting long-term earnings.
  
• The award of $1.6 billion in CHIPS Act grants will reduce expected depreciation, improving operating profit margins and enhancing free cash flow, thereby supporting long-term earnings per share growth.
  
• Continued investment in diverse and long-lived product portfolios and strong capital allocation discipline positions the company for sustained free cash flow per share growth, bolstering earnings prospects in the long run.

Valuation

• The assumed bearish price target for Texas Instruments is $168.57, which represents one standard deviation below the consensus price target of $203.15. This valuation is based on what can be assumed as the expectations of Texas Instruments's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $284.0, and the most bearish reporting a price target of just $130.0.
  
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $18.9 billion, earnings will come to $5.5 billion, and it would be trading on a PE ratio of 36.2x, assuming you use a discount rate of 9.2%.
  
• Given the current share price of $169.5, the bearish analyst price target of $168.57 is 0.6% lower. The relatively low difference between the current share price and the analyst bearish price target indicates that they believe on average, the company is fairly priced.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.