DIOD Rising: Benchmark, Baird Laud Economics of BCD Deal, Profit Potential

Shares of analog chip maker Diodes (DIOD) are up 20 cents, or 1.2%, at $17.11 following the company’s announcement late yesterday that it will buy Shanghai, China-based BCD Semiconductor Manufacturing (BDCS) for $151 million in cash. Diodes is down from its high of the session of $17.99, but clearly getting a lift from positive Street commentary on the deal.

The Benchmark Company’s Gary Mobley, who has a Buy rating on Diodes stock, and who raised his price target today to $25 from $20, writes that “We view this acquisition quite favorably” given that it could add 20 cents per share immediately to annual earnings for Diodes, and given that it increases Diodes’s analog product “mix” from 20% to 35%, which may boost margins a full percentage point.

The deal also “combines BCD�s extensive front- end manufacturing capabilities with Diodes� extensive back-end capabilities,” and Mobley sees a feasible route to increasing product gross margin based on how it uses both its factories and those of BCD:

BCD currently operates a wafer fab facility in Shanghai and will soon open a second facility in Shanghai. Diodes Inc. currently operates two wafer facilities; however, most of the wafer output from these facilities is used for Diodes� discrete components. Most of Diodes� analog wafer needs have been externally sourced. With the addition of a new facility in Chengdu, China, Diodes will operate two large, but underutilized test �and-package facilities. For the most part, BCD has outsourced most packaging services. Based on FY12 financials, BCD & Diodes combine to generate ~26% gross margins. By combining BCD�s front-end wafer processing capabilities with Diodes� packaging capacity, the combined companies should be able to enhance gross margins by at least 200bp. It could take a few years to qualify Diodes� existing analog parts to be manufactured on BCD�s wafer lines. However, it may take only one year to switch BCD�s packaging services to Diodes� existing facilities.

R.W. Baird’s Trisan Gerra reiterates a Neutral rating on Diodes stock, and a $16 price target, writing that the “acquisition economics are attractive” at 0.9 times his 2013 projected revenue estimate of $164 million for BCD, and that the “deal is immediately accretive and could add $0.10 in EPS next year, per our estimate.”

Like Mobley, Gerra believes the addition of BCD can lift margins, and that the deal may help Diodes gain share:

BCD�s gross margin estimate of 28% for 4Q is slightly higher than Diodes� current gross margin profile. BCD has the potential to raise its gross margin profile to the low 30s in the medium term. BCD continues to gain market share and is complementary to Diodes� product and geographic mix, notably in the AC/DC and DC/DC arenas (over 40% of BCD�s revenue). BCD is starting to ramp a significant AC/DC win at a Korea-based smartphone OEM, and is well positioned in the China-based smartphone market and at China ODMs in general.

But Gerra is not recommending Diodes stock because of “Our expectation for continued inventory deleveraging in 1Q and overall weak macro outlook near term.”