A key tenet of value investing is to invest in stocks that are high quality yet currently unloved in the market.
That’s often a tough combination to find.
So what market is out of favor today, but may turn around in the future? Electric vehicles. And one key chip supplier to the EV market can be had at a tantalizingly low valuation today.
Investors should get on board with On
On Semiconductor (NASDAQ: ON) is a key chip supplier to the automotive market and is a leader in silicon carbide solutions for EVs and electric infrastructure. Of note, silicon carbide (SiC) is a new type of alloy that is somewhat difficult to produce, but yields great benefits. SiC power modules take up less space than traditional silicon, and their conductive advantages make SiC chips more efficient when used in an electric vehicle’s powertrain. Therefore, SiC chips greatly boost the range for EVs or enable EV makers to produce cars with a smaller battery, drastically lowering costs.
On Semiconductor CEO Hassane El-Khoury was installed by an activist investor in December 2020 and has transformed the company. After divesting some of On’s internal fabs as well as lower-margin consumer businesses, El-Khoury has positioned On as a higher-margin producer of power, analog, and sensor chips. Last quarter, 52% of On’s revenue came from autos, with another 27% coming from the industrial segment.
These two segments should have long-term tailwinds behind them, given the transition to electric vehicles as well as the electrification of energy infrastructure. Still, both segments are in a downturn right now, following the past couple years of high interest rates and a slowing Chinese economy.
On’s advantage in SiC
One of the main reasons to like On is its early leadership in silicon carbide manufacturing. While other competitors are still trying to get their silicon carbide plants up and running, On has jumped out to a leading 35% to 40% market share in the SiC industry. Moreover, management aims to grow its SiC chip revenue at two times the rate of the industry. At a recent industry conference, El-Khoury also noted that 50% to 60% of new Chinese EVs in the recent Beijing Auto Show had On Semi’s SiC chips inside –and China is where EV adoption has been the highest.
On also differentiates itself from peers by producing the full packages containing its chips. There are tradeoffs between the size and type of SiC chips and the type of packaging they need. So On’s ability to make the full solution for automaker OEMs and Tier 1 suppliers, determining the ideal chip and packaging combination, is another differentiator.
