Inflection Research

Xilinx has a customer base more diverse across industries and while Xilinx’s competing chips often offer better performance Altera has won several recent design wins because of its focus on lower power (and correspondingly better battery life). Both use a fabless model which keeps capex requirements low and taxes low, due to products being manufactured overseas. Both companies have high margins, no debt, and around $1B in cash.

The leading PLD vendors will stay at the cutting edge of manufacturing processes. When a fab begins a new, smaller fabrication process they like to use PLD’s as one of the first chips they manufacture because they are high volume with relatively straight forward manufacturing designs. Setting up the fabrication process for microprocessors and ASICs are much more difficult, and getting more and more difficult with each new smaller geometry. The latest FPGA products are at least one or two generations ahead of any ASIC products. It is a safe bet that Xilinx and Intel will both remain at the cutting edge in manufacturing processes.

Xilinx Overview

Founded in 1984 and public since 1990, at $.83 a share when adjusted for splits. Every year for the past decade Xilinx has generated positive free cash flow, including in 2001 and 2002. It has a global customer base of over 21,000 customers (top 15 customers account for 33% of sales). It sources semiconductor wafers form multiple suppliers.

Xilinx has a little over 50% share of the PLD market. It is the 3rd largest company in the overall logic market. In 2007, a survey of semiconductor customers ranked Xilinx, for the first time, as the most important vendor, ahead of IBM or Intel. Over the past decade it has slowly been moving up the list on this survey.

Xilinx’s Virtex FPGA’s can include up to two embedded IBM PowerPC cores, offering embedded system designers the ability to build a system-on-a-chip capable of running an embedded OS like Linux. It has been making solid progress in the high performance DSP market as well as the embedded processor market. It offers an embedded development kit based on the Eclipse framework.

Xilinx currently trades at an opportunistic valuation with a 2008 P/E of less than 15. It has a ROE and net margin around 20. Including investments and subtracting a billion dollar convertible the company has a net cash position of one billion. This cash position has been shrinking as the company buys back shares. I have modeled revenue growth of 12% and earnings growth of 15% (due to share buybacks and margin improvements) over the next five years. Altera’s valuation is very similar.

Altera Overview

Altera was founded in 1983 and has been public since 1989. It has a global customer base of over 14,000 electronics equipment makers. It uses a single source, Taiwan Semiconductor, for its semiconductor wafers; subjecting the company to any potential production issues incurred by Taiwan Semiconductor.