Buy Synaptics Stock. It’s the Best-Performing Chip Stock.

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The semiconductor shortage has been bad news for consumers and all kinds of manufacturers, but it has been a clear boon for chip investors. Since the start of 2020, chip stocks are up 82%, easily beating the 54% gain for the

Nasdaq Composite.
Big names like

Advanced Micro Devices

and

Nvidia

have gotten much of the attention, but a little known chip maker has beat them all: San Jose, Calif.–based

Synaptics
.

Once a low-key provider of chips used for PC touchpads, mobile phone screens, and fingerprint scanners, Synaptics (ticker: SYNA) has turned itself into a play on the Internet of Things, which aims to bridge the physical and digital worlds.

Thanks to a series of acquisitions, Synaptics now makes parts for virtual-reality headsets, security cameras, automotive displays, voice-recognition systems, and a range of other applications. The company has divested its low-margin display chips for LCD phones and trimmed its head count by about 30%.

The transformation began with the arrival of CEO Michael Hurlston in August 2019. Since then, Synaptics shares have soared 560%, to a recent $212, an average gain of about one percentage point for every trading day.

Barron’s wrote a bullish feature about Synaptics in August 2020, when the stock was trading at $80. In recent months, though, Synaptics has been caught up in the broader tech selloff, with shares down 28% from their December peak. The pullback is a good entry point for investors who missed the original rally.

“Demand is insanely hot, and supply is very, very tight,” Hurlston says. Synaptics sales are forecast to jump 29%, to $1.73 billion, in the fiscal year that ends in June. And it might have been even better without the chip shortages. Hurlston says that revenue in the latest quarter was held back by capacity constraints at the company’s foundry partners, particularly at Taiwan Semiconductor Manufacturing (TSM), the world’s largest semiconductor manufacturer.

Hurlston notes that before the shortages, Synaptics typically entered a new quarter with about 70% of its demand already booked. Now, he says, the company has roughly a full year of orders in its backlog, with lead times for some products exceeding 12 months.

In December, Synaptics completed its third major acquisition of the Hurlston era, paying $550 million in cash for chip maker DSP Group. The acronym DSP stands for “digital signal processing,” a chip technology used to connect the physical world of sound and images with the digital realm—another way of thinking about the Internet of Things, also known as IoT. DSP Group’s portfolio was a clean fit with the rest of the Synaptics portfolio, and the deal was an immediate boost to profits.

Under Hurlston, Synaptics also acquired DisplayLink, a Palo Alto, Calif.-based company that dominates the market for parts used in PC docking stations, for $444 million. And more crucially, the company spent $250 million for

Broadcom
’s
(AVGO) wireless IoT business, which included Wi-Fi, Bluetooth, and GPS technologies. Hurlston had run the business as a senior executive at Broadcom earlier in his career.

For Synaptics, the Internet of Things now accounts for more than 60% of revenue, with an annual run rate of more than $1 billion. The company still makes some parts for PCs and phones, but they are becoming less important to the story. Just a few years ago, Synaptics generated 80% of revenue from touch-screen parts for handsets—and at one point Synaptics relied on

Apple

(AAPL) for more than half of its revenue, an uncomfortably high reliance on a single customer.

Synaptics is increasingly profitable too. Its adjusted gross margin reached 59.5% in the latest quarter, up from 46.9% just six quarters ago. For the March quarter, the company sees a tick up to 60%. For the current fiscal year, Wall Street forecasts earnings—adjusted for certain one-time costs—growing 57%, to almost $13 a share.

Paul Wick, the longtime manager of the Columbia Seligman Technology & Information fund, was bullish on the stock when we last wrote about it, and it remains a top 10 holding in the fund. Wick’s colleague Shekhar Pramanick, who covers chip stocks for the fund, thinks the company is on the way to hitting annual profits of $15 a share. If you assume a multiple of 20 times earnings, roughly in line with the chip-stock average, Synaptics shares could jump back to $300.

Susquehanna Financial Group analyst Christopher Rolland, who has a Positive rating and $320 target price on the stock, wrote in a recent note that the company’s IoT business grew more than 70% year over year for the fifth consecutive quarter—and he sees a spike above 100% growth in that segment in the March quarter, with further gains to follow. He thinks the company’s 2020 acquisition of Broadcom’s wireless IoT business “will be a growth driver for years to come, growing many times in size.”

Barron’s spoke to Hurlston the day after the company reported better-than-expected quarterly results, with sales up 18% to $421 million. For the current March quarter, the company sees revenue of $450 million to $480 million, way above Wall Street’s old $410 million estimate.

The CEO was frustrated by investors’ indifference to the report. “We had record numbers in gross margin and EPS, and the stock is flat,” he says.

It’s unlikely to stay that way.

Write to Eric J. Savitz at [email protected]