Infineon: Improved Fundamentals And IoT Growth Make It A Buy

Since our last update, '' Infineon Technologies AG's (OTCQX: IFNNY) (OTCQX: IFNNF) stock price has declined by more than 10%. Since 2022, the company has been one of our top selections, and we believe it is now back to an exciting entry point. Post Q3 results, here at the Lab, we report the following negative vital takeaways:

1. Profitability slightly declined quarter on quarter with an adjusted gross morning from 48.6% in Q2 to 46.2% in Q3;
2. A negative MIX effect due to lower top-line sales in the best-performing segment (PSS division). As a reminder, in 2022, PSS achieved a core operating profit margin of 27.9% compared to a group average of 23.6%.

Here at the Lab, before moving forward with our supportive buy, we note that the above two negative trends could reverse in the coming quarters. Why? Looking at the first point, the gross margin evolution anticipates higher idle costs. Related to the product MIX, having listened to the Q&A analyst call, management believes that PSS recovery will likely materialize in 2024 thanks to the uplift expected in cyclical sectors.

Why is Infineon a buy?

Aside from the secular growth trend that we already analyzed in our initiation of coverage coupled with our automotive upside, today we report the following upside:

1. The company is a top ten global semiconductor player with a diversified GEO and sales exposure. Assuming revenue growth as indicated by the management, an ongoing operating leverage, and a favorable product MIX, we are not anticipating a decline in margins even if we forecast lower pricing power and/or CAPEX underutilization. This balanced portfolio provided a solid margin of safety in case of an economic slowdown (Fig 1). We estimate a limited underutilization of €400 million with a step up from H1 at €180 million. This is mainly due to weaker demand in CSS and PSS sales;
2. To support Infineon's state-of-the-art facility, the company announced an expansion of the Kulim factory. This lab will be used to produce 200mm SiC and might provide an additional €7 billion top-line sales potential by the end of the decade (Fig 2). The company anticipates being in a better cost position vs. the closest competitors. Here at the Lab, we believe this is due to factory scale and building cost. Asian costs are half price vs. Europe/US;

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Conclusion and Valuation

Combining all these elements and considering Infineon's track record in cross-selling products, the company is poised for a solid growth rate in the industrial and consumer electronics markets. Energy transition and Power and Sensors Systems with IoT new design might provide a stable growth base over the mid-to-long term horizon. With a rock-solid balance sheet, Infineon is trading at a 2024 P/E 14x. This is not justified vs. its historical average (20x). Post Infineon's Q3 results, we leave our EPS broadly unchanged and reiterated our €48 per share target price ($51 in ADR). There are also risks to our overweight, such as disruptions of new technologies, Wall Street concerns around margins, limited pricing power due to competition, and FX fluctuation, especially €/$.

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