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Technology Stocks : Xilinx (XLNX) -- Ignore unavailable to you. Want to Upgrade?

To: Lewis M. Carroll who wrote (2402)	9/3/1999 5:29:00 PM
From: Howard Bennett	Read Replies (1) \| Respond to of 3291

Aug 31, 1999 Xilinx: How High Is Too High? Few would dispute that Xilinx (Nasdaq:XLNX - news) is a very good company, executing impressively in a hot segment of the semiconductor industry. Xilinx makes programmable logic devices (PLDs) used in various communications and networking products. But the stock price soared more than 400% in less than a year. Most investors realize there is often a premium associated with owning high quality companies like this, but how much is too much? Xilinx is one of two companies, the other being Altera (Nasdaq:ALTR - news) , that dominates the market for Programmable Logic Devices. PLDs are used primarily in devices for data communications, telecom and networking, but some emerging applications include set-top boxes, digital cameras and DVD players. Unlike other chips which have their instructions built in during the manufacturing process, PLDs are programmed by the customers (that is, the manufacturers of those electronic devices) to meet their specific needs. That gives customers faster time-to-market with new product designs because they don't have to order new pre-programmed chips. Technology is notorious for its short product cycles, so time-to-market is a critical concern. The use of cheaper gate arrays has been far more prevalent for volume production applications, but PLDs are gaining ground rapidly as their cost structure falls and their density and performance improves. Sales of gate arrays were nearly three times PLD sales in 1997, but PLDs are expected to surpass gate arrays in the next few years. A Dataquest study estimates that the PLD market will grow from $1.9 billion in 1996 to $5.8 billion by 2001. The High-Density Programmable Logic Devices market is viewed as one of the fastest growing segments of the semiconductor industry, with a 20% to 30% annual rate expected over the next five years. The key growth driver remains communications. Demand for networking, telecom and wireless communications infrastructure is exploding, and PLD's cater to the need for fast time-to-market in these end markets. The PLD market has experienced some pricing pressures in the past as Xilinx and Altera scrapped for market share, but the current environment seems to be supportive for profit growth. That makes PLD's distinct from the memory chip and even microprocessor markets which are showing soft pricing trends due to overproduction, among other things. But there are some broader issues that apply to most chip stocks these days, such as their high P/Es at a time when the Fed is raising interest rates. Rising rates tend to hurt a stock more when the current stock price is supported by expectations for significant growth in future earnings. That's because the fundamental concept behind stock valuation is the discounted present value of future earnings. The higher interest rates are, the more those future earnings must be discounted. Xilinx trades at a P/E of 73, and using FY2000 earnings the P/E is still 52. If interest rates keep rising, high-P/E stocks like Xilinx could see their multiples compressed. Again, that's an issue investors will have to weigh against an otherwise positive outlook for Xilinx's PLD business. The consensus among analysts is for a 97% increase in earnings per share to $1.34 in its current fiscal year (ending March 2000) and a 5-year growth rate of 27.3%. Those estimates have been steadily rising, which is part of the reason for the soaring stock price. But Xilinx has also seen its valuation metrics like P/E and Price to Sales expand considerably in the past few months relative to Altera. When we last profiled Xilinx in April, both it and Altera were trading at a forward P/E of 37. Now Xilinx is up to 52 times FY2000 earnings and Altera is only at 41. A slightly stronger growth outlook is one reason why some analysts predicted that Xilinx would outperform this year, but the gap in valuations between these two peers is suddenly impossible to ignore.