3 5G stocks to buy now

Just as 4G wireless ushered in a new era of smartphones and mobile apps that we depend on, the new 5G wireless standard promises even more exciting innovation in the coming decade. 5G enthusiasts predict faster, more secure, and higher capacity communications, paving the way for new AR / VR applications, more sensor-based automated vehicles, factories and agriculture, as well as other new age apps that we can’t even think of.

The need to power all of these applications is driving a massive increase in demand for next-generation chips. Yet my top three 5G titles right now are not semiconductor producers or designers themselves, but rather the main “pick and shovel” tools that semiconductor foundries use to make. these chips. Here’s why this sub-segment is my favorite way to play 5G right now.

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Lam research and applied materials

You can think of Lam Research (NASDAQ: LRCX) and Materials applied (NASDAQ: AMAT) such as “Coke and Pepsi” semiconductor etching and deposition equipment. Both companies manufacture tools that etch or etch materials on printed wafers, as well as tools that deposit the conductive materials that make up today’s advanced chips.

In distinguishing the two, Applied is a bit more diverse, as it also has metrology and inspection tools, and also makes tools for OLED displays. Lam Research is a bit more specialized and makes tools that are particularly important for 3D stacking in NAND memory. Still, both companies serve semiconductor foundries, as well as DRAM and NAND. There are hundreds of steps in the production of advanced chips, so there really is room for both companies to control their own steps in the process.

Why do I like these two companies? Three reasons. First, the outlook for their tools is good. Not only will the demand for semiconductors increase in the foreseeable future, but the more advanced the chip, the greater the capital intensity associated with manufacturing that chip. Therefore, a large chunk of the 5G super-cycle dollars is expected to flow from chipmakers to these companies.

Second, the engraving and filing industry has consolidated itself to only a handful of companies, forming an oligopoly that will be difficult to move. After all, if you’re a chipmaker spending billions on your factory, you won’t want to spend less on these critical tools. A mistake in a semi production line can affect performance and be extremely costly. Lam and Applied have also leveraged their massive amounts of data into value-added services they sell to chipmakers to improve yields and limit errors. These high margin services, which tend to grow with the installed base (not with annual machine sales), accounted for 24% of Applied Research sales last year and 33% of Lam Research sales last year. trimester.

Strong competitive positions and high margin services guarantee excellent profitability and excellent cash generation. Applied’s operating margins are 26% and its return on equity is 38.5%. Lam Research’s operating margin is 28.7% and its return on equity is 60%. Remarkably, neither of these two ROE figures takes into account debt, as the two companies are roughly net cash neutral.

Finally, both stocks are quite cheap compared to many other tech stocks and even some popular chip stocks. The two companies are trading just under 20 times the earnings estimates for the coming year. That’s below the 22 P / E multiple ahead of the S&P 500, although both of these companies are better than average. Additionally, given the massive increase in investment spending recently announced by clients Semiconductor manufacturing in Taiwan and SamsungI wouldn’t be surprised if Applied and Lam easily beat analysts’ estimates this year.

Both stocks have retreated over the past few weeks after huge runs after the November election, but I think the slight pullback is an opportunity for long-term investors. While some may anticipate the end of the current chip boom later this year, I tend to think the current hike will be more durable and long-lasting, especially given the 5G megatrend. And if those stocks stay here or fall further, Applied and Lam are generating significant cash flow with which to buy back stocks and increase their dividends anyway.

Ichor Holdings

Another way to play both Applied Materials and Lam Research is to buy small-cap peers Ichor Holdings (NASDAQ: ICHR). Ichor is a $ 1.1 billion market capitalization company that manufactures fluid and gas distribution subsystems that go into Applied and Lam machines. In fact, last year, Lam and Applied accounted for 51% and 33% of Ichor’s sales, respectively.

While Ichor’s business is less differentiated and generates lower margins than Applied and Lam, the stock is also cheaper, at around 12.5 times this year’s earnings estimates. Last week, the company posted strong growth of 29% and earnings per share of $ 0.51, both well ahead of estimates, while increasing margins throughout the year.

It’s worth noting that Ichor just raised funds in December through a small offering of shares, which is a bit of a concern considering his shares aren’t that expensive. However, Ichor has grown a lot thanks to acquisitions in the recent past, so another consolidation move could be ahead.

As a small cap, Ichor may not be on your immediate radar as a 5G game, but it certainly looks like a way for a value investor to play the growth of semiconductor equipment manufacturing. since the 5G boom.