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Is Cypress Semiconductor Corporation a Buy in 2018?

Tim Brugger, The Motley Fool

It's nearly impossible to avoid hearing about the Internet of Things (IoT) in today's connected world. Forecasts vary of course, but one recent study suggests IoT spending will reach $772 billion in 2018 and skyrocket to $1 trillion in 2020. Not surprisingly, a market that represents such a significant opportunity has attracted some of the world's largest and most tech-savvy companies.

Though it may not be the first IoT provider to come to mind, Cypress Semiconductor (NASDAQ: CY) has transitioned its business to what is essentially a limitless opportunity. Cypress' portfolio of IoT products includes wireless connectivity for wearables, smart homes, automotive, and mobile audio solutions. As Cypress demonstrated last quarter, and likely will again when it shares year-end results Feb. 1, IoT is driving impressive top- and bottom-line growth.

The question is: Can Cypress continue its stellar run?

The year 2018 in gold, block-like numbers using a round clock as the 0.

Image source: Getty Images.

Hitting all the right buttons

Last quarter was a microcosm of Cypress' 2017. Led by an 80% increase in IoT wireless connectivity revenue, Cypress generated a record $604.6 million in sales, good for a 15% improvement year over year. Cypress also delivered on CEO Hassane El-Khoury's cost-cutting initiative, shaving over $25 million in expenses sequentially.

If not for a one-time gain of nearly $113 million that trimmed costs a year ago, Cypress' operating expenses would have been 5% less in 2017's third quarter. The result of Cypress' efficiency improvements was an increase in gross margins and third-quarter earnings of $0.03 a share. What's remarkable about the decline in overhead is that it hasn't negatively impacted Cypress' research and development efforts.

This month alone Cypress has introduced comprehensive infotainment offerings and a touchscreen controller for smart cars. Cypress also rolled out "the industry's first" Bluetooth mesh networking product. Utilizing its wireless internet connectivity for an embedded devices (WICED) IoT platform, the Bluetooth solution seamlessly connects multiple mobile devices at greater distances. The connected devices are then able to remotely control various smart-home "gadgets."

Memory product division (MPD) sales of $231 million were essentially flat year over year. However, Cypress' all-important microcontroller and connectivity division (MCD) revenue shot up 29% to $373.6 million. Khoury said an impressive 80% of last quarter's total revenue was generated from customers purchasing multiple solutions. That's a good indicator that Cypress is not just in the right market; it's delivering what its customers want.

Photoshopped picture of several vehicles including a plane, bulldozer, and garbage truck all connected at multiple points.

Image source: Getty Images.

Size matters

Much like its IoT mobile connectivity competitor CalAmp (NASDAQ: CAMP), Cypress' relatively smallish size will work in its favor in the months and years ahead. CalAmp is also growing at a rapid pace, led by a 24% jump in mobile telematics revenue last quarter, home to its mobile connectivity solutions. Despite its outstanding growth on a percentage basis, CalAmp's telematics revenue totaled just $77.8 million.

At $5.85 billion in market capitalization, Cypress is larger than $885 million CalAmp, but still small enough that it takes less to move the revenue needle than a $300 billion or $400 billion tech behemoth. The size advantage Cypress enjoys, and tremendous upside it represents, will continue to work in its favor in 2018, and for several years thereafter.

To buy, or not to buy

Not only is Cypress' MCD division generating outstanding growth, based on guidance for the fourth quarter investors can expect more of the same. At the midpoint of fourth-quarter revenue expectations of $575 million to $610 million, Cypress' top line will have risen 12%. And don't be surprised if Cypress once again reports sales on the high side of guidance.

Cypress expects gross margins to be around 43%, which would be another improvement. Though its stock price is up 45% the past year, Cypress remains an outstanding bargain compared to its peers. Cypress stock is trading at just 14.4 times forward earnings, and it's a great value by most every other metric as well.

Unlimited upside, consistently strong quarterly results, and a 2.5% dividend yield to boot, all add up to Cypress being a strong buy in 2018.

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Tim Brugger has no position in any of the stocks mentioned. The Motley Fool recommends CalAmp and Cypress Semiconductor. The Motley Fool has a disclosure policy.