Words like exasperating and tortuous come to mind when thinking about the so-called recovery in the semiconductor sector. Although analysts dutifully continue to make their "it gets better" calls, it looks like investors have lost patience with many of these names in the broader market sell-off. As one of the highest-quality names in the business, though, that is increasingly pushing Analog Devices (NYSE:ADI) stock to a potentially interesting price.
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Fiscal Second Quarter Looks Awfully Familiar
Analog's fiscal second quarter wasn't identical to the first quarter, but it was more similar than not. Although inventory and order levels seem to be stabilizing, end-user demand is still looking pretty wobbly in most business units.

Revenue fell almost 15% from the year ago level, but rose about 4% on a sequential basis. Amplifiers and converters both grew faster than overall revenue (up 5 and 8%, sequentially), while power management was a little softer. By end-market, industrial was a strong sequential grower (up 12%), while consumer continues to be a notable laggard (down 8%).

Analog Devices has always tended its margins well, and this quarter was no exception. Though gross margin was more than two points lower than last year's level, the company picked up two points sequentially. Likewise, while GAAP operating income dropped significantly from last year (down almost 30%), it improved 16% sequentially.

SEE: What Are Some Of The Key Differences Between IFRS And U.S. GAAP?

When Are the Good Times Coming Back?
Looking at the tone and direction of guidance, Analog Devices management isn't saying anything all that different from the management of peers like Linear Technology (Nasdaq:LLTC) or Texas Instruments (NYSE:TXN). Industrial demand is good, but probably not going to accelerate. Communications seems to have bottomed out, auto is OK and consumer is still an unknown.

Unfortunately, there aren't a lot of obvious signs of progress out there yet. Chip companies like Analog, TI and ON Semiconductor (Nasdaq:ONNN) are cautiously optimistic, as are Asian companies like Lenovo (OTCBB:LNVGY.PK) and Samsung (OTCBB:SSNLF.PK), but it's hard to look at the data from computer assemblers, consumer electronics companies or retailers like Best Buy (NYSE:BBY) and come away feeling much optimism.

Still When, not If
All of that said, patience will likely pay off for Analog Devices shareholders. Fab utilization is picking up and even a gradual and unsteady recovery should push some strong margin improvements in the quarters to come.

Looking out over the longer term, Analog Devices has gained share at quality auto OEMs like Audi and BMW and should be able to benefit from the increasing digital content in cars. Elsewhere, demand for more motor and power control products in the industrial market should allow Analog Devices to outgrow the market over a full cycle.

SEE: Analyzing Auto Stocks

The Bottom Line
Even with modest long-term growth projections (low/mid-single digit cash flow growth), Analog Devices looks undervalued. Certainly there's no reason to believe that the company will ever produce a smooth growth curve, but a cycle of higher highs and higher lows can still support long-term share appreciation.

For investors who want a somewhat less volatile tech play, Analog Devices is a good candidate to consider. It's not going to show the same trough-to-peak recovery as a semi equipment stock, nor the torrid growth of the flavor-of-the-year momentum stories, but it can still produce reasonable capital gains when bought at attractive prices.

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At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.

Tickers in this Article: ADI, LLTC, TXN, ONNN

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