Microsemi Outshines Chip Sector

While other chipmakers are floundering, Microsemi Corp. is holding its own.

The Irvine-based company has managed to keep investors fairly happy with healthy profit margins and solid sales in the midst of an increasingly tough chip market.

“It’s a defensive play, strategically,” said Michael Davies, an analyst with Next Generation Equity Research LLC.

Microsemi sells to companies in an unusually high number of sectors for a chipmaker its size,$1.6 billion in market value at recent check. And it tends to do well in markets where there isn’t much competition, analysts said.

Microsemi, which was founded in 1960, makes chips that power satellites, military aircraft, medical equipment and flat-screen televisions, among other things.

Microsemi makes chips at its own factories, unlike other Orange County companies such as Irvine-based Broadcom Corp. and Newport Beach-based Conexant Systems Inc., which outsource manufacturing.

Microsemi is a “safe haven for chip investors,” said Craig Berger, an analyst with Wedbush Morgan Securities Inc., in a report.

The company has seen its shares fall about 10% during the past three months,similar to Nasdaq’s drop. But that’s better than the Philadelphia Semiconductor Index, a broad measure of chip stocks, which has fallen about 20% during the period.

Some chip stocks have fared much worse. Shares of Conexant and Newport Beach-based Mindspeed Technologies Inc. have fallen by more than 50% (see related story, this page).

Conexant and Mindspeed sell chips for communications products makers, among others.

In the past year, Microsemi shares are up 14%, while the Philadelphia Semiconductor index is down by nearly that much.

While some companies have warned of a soft chip market, Microsemi didn’t disappoint Wall Street in its most recent quarter, which ended July 2.

Adjusted income of $20 million slightly beat estimates. Profit was up 7% from a year earlier and 14% higher than the prior quarter.

Sales, in line with forecasts, shot up 33% to $100 million compared to a year ago. Revenue was up 18% from the previous quarter.

And estimates for the current quarter were in step with analysts’ projections: nearly 10% growth in adjusted earnings and 7% to 9% growth in sales compared to the quarter ended July 2.

Microsemi saw particular strength in its sales to military customers in the latest quarter. The sector accounted for 32% of Microsemi’s sales in the period.

Chip sales for commercial planes, satellites and medical equipment held their own as well, making up nearly one-third of revenue in the period.

“Leading our growth this quarter was our high reliability business,” said Chief Executive James Peterson during a conference call with investors and Wall Street analysts. “Defense, satellite programs and commercial air business demonstrated significant strength.”

Microsemi is smart to go after these markets, Next Generation’s Davies said. It’s one of the few chip sectors that requires chips to be fail-proof,unlike consumer gadgets.

Chips that go up in satellites must be top quality because they can’t be easily fixed, Davies said. The same reliability issue goes for medical equipment.

“They don’t have much competition in the medical and military markets,” Davies said. “Their products are deemed to be of a much higher grade.”

Microsemi isn’t just about old-school markets. It has diversified into chips for notebook computers, TVs and mobile phones.

That’s helped the company ride the ups and down of the finicky chip market.

“If there’s weakness in one specific area, it tends to be made up in another area,” said Michael Donahue, analyst with Emerging Growth Equities Ltd.

In its latest quarter, Microsemi saw strength in all areas. Its order backlog also is growing in all sectors, said David Wong, an analyst with A.G. Edwards & Sons Inc., in a note.

The company recently added to its military and aerospace lineup with the $130 million buy of Bend, Ore.-based Advanced Power Technology Inc.

Advanced Power’s chips are used in military communications, monitoring and surveillance systems.

There were some concerns that integrating Advanced Power would undo some of Microsemi’s profit margin gains during the past few years.

The integration has gone better than expected. Profit margins were a respectable 50.3% in the most recent quarter, down from 51.1% in the previous quarter, Wong said. Advanced Power had margins of 32% in 2005, but Microsemi said they were improving earlier this year before the acquisition.

Analysts said they expect better margins as Microsemi cuts low-profit sales, manufacturing and sales staff at Advanced Power.

Microsemi faces several challenges. If military spending,which has bolstered results in the past few years,is cut, Microsemi could get hammered.

Another possible negative: Guidance for the current quarter was only in line with Wall Street’s estimates.

That could be “a possible perceived shortcoming given Microsemi’s track record of guidance above consensus” said Wedbush analyst Berger.

Also, stockpiles of chips piled up a bit in the quarter. That was driven by the acquisition of Advanced Power, Berger said.

For now it looks like the military and defense sectors will continue their spending on Microsemi chips, analysts said.

And there could be growth in hot markets such as TVs and wireless Internet chips.