STOCK UPDATE
NATIONAL SEMI'S PR COUP
THE WAY shares of
National
Semiconductor
(NSM) soared
Monday, you'd
think the company
actually had
something new to
announce. The
chipmaker's stock
rose nearly 17% or
3 7/16 to close at
23 11/16 after the
company revealed
its intention to
produce a
so-called "system
on a chip" by the
middle of next year. The new chip, predicted National
Semiconductor CEO Brian Halla, will drive down PC prices
to the $400 level and power many new types of non-PC
information appliances.
The trouble is, the company has been talking about
producing such a chip for months. "They articulated all of this
when they bought Cyrix," says Salomon Brothers analyst Jim
Barlage. "But the near-term issues are executing the
ramp-up, and getting from here to that product." And that's
just what was missing from Monday's announcement -- any
word of specific progress on the company's forthcoming
MXi chip and its next-generation microprocessor
technology, dubbed Cayenne. These two technologies are
critical for the company to compete with Intel (INTC),
Advanced Micro Devices (AMD) and Integrated
Device Technology (IDTI) in price, performance and
features.
And yet, you have to give National Semi credit for a major
public relations coup. Halla achieved substantial face time on
CNBC Monday afternoon to explain in plain English how
microprocessors are being commodified, just like the electric
motor, and how that trend will result in a whole new market
for non-PC devices starting some time next year. When
SmartMoney recommended National Semiconductor in our
March 1998 issue, we were attracted to the promise of
National's Cyrix division and the company's thriving analog
circuit business. But far from reassuring us, Monday's
announcement still leaves many critical questions
unanswered.
Outstanding issues Halla has yet to address include how far
along the company has come in outfitting its chip factory in
South Portland, Maine, to produce chips with smaller feature
sizes. National has been slow to produce chips in volume at
the factory. In addition, the company must move to a new
production process, dubbed quarter micron, in order to
produce even more tightly packed chips with features
measuring .25 micron. Achieving both goals at the Portland
foundry is important if National is to turn Cyrix's into a
profitable operation.
Cyrix lost money off and on for several quarters before the
acquisition last fall, and has continued to eat into National's
profit estimates. In the last quarter for which revenues are
broken out, the second quarter, for instance, National's
bottom line was slashed by as much as 40% thanks to those
ongoing losses. BancAmerica Robertson Stephens analyst
Arun Veerappan estimates that in order to break even this
year, National must double the 500,000 units it obtains on
average from its relationship with IBM (IBM). Veerappan
says the company has shown it can do that in the past, but
delays in past quarters put further pressure on management
to prove that the company can actually deliver on the
foundry's capacity.
The overall problem, analysts say, is that National's focus on
analog circuits leaves it ill-adapted to the requirements of
perfecting process technology, a critical weakness when
facing an opponent such as Intel whose core strength is in
the perfection of the manufacturing process. Analyst Ashok
Kumar, who shrugs off today's announcement from Halla
("Does anyone really care?") today initiated coverage of
National's rival AMD with a "Buy" rating, and raised
estimates well above the Street consensus of 50 cents in
EPS for the year to 87 cents. Kumar's reasoning? It looks
like AMD will have better-than-expected capacity in its
Austin, Texas fab, and expected speeds for the chips look
good.
Not all analysts are as quick to dismiss the Cyrix business.
According to Drew Peck of Cowen & Co., National's
business aside from Cyrix was fairly valued at last week's
closing price of around $20, but there's infinite room for
speculation above that number, as Monday's jump shows.
"Is this a $50 stock?" muses Peck. "That depends on
whether or not you believe they can pull this off. I believe
they can. There is value in this strategy. The potential upside
is enormous; on the other hand, if they screw it up there's still
some potential risk in it." Because of that risk, Peck holds
what he calls a "lukewarm" rating on the stock.
Nonetheless, even assuming National can perform
outstandingly later this year, the Cyrix division represents
only a tiny portion of sales for the company -- far less, in
fact, than all the hype would suggest. Analysts estimate
microprocessor sales will constitute between 7% and 15%
of the company's revenues this year.
What's holding up the rest of the stock? A very mature
analog business, for one thing, producing an assortment of
integrated circuits for computers, including such gizmos as
temperature sensors and audio processing devices. Analysts
point out that this is a steady revenue generator that is in no
danger of going away. Indeed, if there's any credence to be
given to Halla's announcement Monday that next year's chips
will integrate these extraneous parts with the
microprocessor, then the breadth and scope of the analog
portfolio is even more valuable. That's the sort of thing that
should spur Intel to seriously consider its lack of expertise in
analog circuits.
However, when analysts look to National's near-term profit
growth, it's the other third of the business, the
communications chips, that they worry about. National did
not make it into our recent screen of networking chip stocks,
but the company has historically been one of the major
players in silicon for wireless handsets and various other
networking gear. The company has stumbled recently,
however, losing share to Lucent (LU) for integrated chips
for the Ethernet market. Last year the company saw a senior
executive in its communications division, Douglas McBirney,
poached by VLSI (VLSI) to run that company's nascent
networking chips business. Most analysts believe National
can recover from the setback, but the communications field
is getting crowded; none other than Intel has become a
major force in selling silicon for networking gear to the rest
of the world.
Kumar estimates that 3Com (COMS) and Intel together
own 80% of the market for chips that power integrated 10
and 100 megabit per second networking gear. Losses last
quarter in the wireless business cast further doubt upon the
health of National's communications business.
But of course none of that was addressed in Monday's
announcement, which focused on the bold new markets that,
even if they materialize by the middle of next year, likely will
not yield any kind of profit until after the turn of the
millenium. One thing is for sure: those who bought in at
today's high of $23 7/8 will surely see some of their
investment evaporate in the coming weeks as investors
realize that there is little of substance in this press release.
Barring a dramatic speedup in National's calendar for its
next generation chips, talk of information appliances next
year and of glorious profit growth in 2000 will do little in the
near term to sustain today's boost. The best that can be
hoped for is that the run-up, and the optimism that inspired
it, will buffet some of the turbulence of National's coming
year.
-- By Tiernan Ray
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