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Better Buy: Himax Technologies vs. Finisar

Himax Technologies (NASDAQ: HIMX) and Finisar (NASDAQ: FNSR) have enjoyed a similar catalyst this year in the form of investor excitement about a potential design win at Apple. Both companies have been in the running to power the Face ID feature in the iPhone X.

However, Finisar has apparently failed to make the most of the iPhone opportunity as its laser technology reportedly couldn't meet Apple's requirements in time for the production ramp, according to Bloomberg. Himax, on the other hand, has been reportedly tapped by Apple to boost the production of lenses required for the Face ID feature in the iPhone X. The iPhone X just recently started shipping to customers.   

Himax and Finisar have had wildly divergent stock paths this year.

FNSR data by YCharts

But does this massive discrepancy in the performance of the two companies make Himax, which seems a better bet to land in the iPhone X, the stronger the better bet over Finisar? Let's take a look.

Image Source: Getty Images.

What's working for Himax?

Himax has been long preparing to supply 3D sensing chips to Apple. Now that the top-end model from Cupertino comes equipped with AR capabilities such as Face ID, Himax's business should receive a boost in subsequent quarters as it is reportedly supplying its wafer-level optics (WLO) chips to enable this feature.

Not surprisingly, Himax has forecast a 23% to 30% sequential increase in revenue during the current quarter. Furthermore, it remains optimistic about its performance in the long run since it has decided to advance the expansion of its WLO (wafer-level optics) capacity in order to meet booming demand for 3D sensing applications for the next two to three years.

Therefore, Himax's business is on an uptrend thanks to a bump in sales of its 3D sensing chips. This is clearly evident from the midpoint of the company's guidance, which indicates that its top line will decline just 12% during the third quarter from the prior-year period. By comparison, the year-over-year decline was more severe at 24.5% during the second quarter. Himax is scheduled to report earnings on Nov. 9.

But it shouldn't be long before Himax's top line gets back on track, not only due to the expected jump in the 3D sensing business, but also thanks to a recovery in the large-panel driver business that has been struggling. The company saw a 23% year-over-year decline in revenue from large-panel display drivers last quarter because it had missed landing design wins in some of its customers' new projects.

This side of the business accounts for a third of Himax's total revenue, so it is crucial to its long-term performance. Himax claims that its large-panel business has overcome the hiccups witnessed earlier this year, landing new design wins across Chinese, Korean, and Taiwanese customers. This new business is driven by Himax's refreshed products that have helped it land design wins for 4K TVs.

This could open up a growth opportunity for the company as its Chinese customers are ramping up 4K TV production capacity. Furthermore, IHS Markit forecasts that the 4K display market could hit a size of $52 billion by the end of the decade, up from just $8.8 billion in 2014. This would spawn more demand for Himax's large-panel display drivers.

Why Finisar is down in the dumps

Finisar's core business is currently struggling. It's a fiber-optics components supplier that's quite dependent on telecom spending in China. The company's telecom business accounts for a quarter of its total revenue and in the most recent quarter it fell 15% from the prior-year period thanks to weak Chinese demand and price erosion.

This segment might not substantially recover due to a cloudy forecast for telecom spending in China. MKM Partners forecasts that Chinese optical spending will drop around 30% to 40% during the current quarter. Any subsequent increase in volumes will be weighed down by weak pricing that's already prevalent in the market due to oversupply.

Therefore, a quarter of Finisar's business will continue remaining under a cloud of uncertainty, while investors will have to keep waiting for any potential iPhone-related gains. On its latest earnings call, Finisar management admitted that there will be a delay in shipping its vertical-cavity surface-emitting laser (VCSEL) technology that's supposed to power the 3D sensing applications in the newest iPhone.

Finisar is struggling because of certain issues in the manufacturing progress. This might force it to cede its potential share of iPhone chips to other suppliers, with rival supplier Lumentum reportedly supplying some of the VCSEL chips to Apple following Finisar's failure to meet specifications. This is evident from Lumentum's latest results, which reveal that its 3D sensing revenue in the September quarter climbed to $40 million as compared to just $5 million in the previous one. Furthermore, Lumentum management claims that the company continues to see a sharp rise in 3D sensing orders, which spells trouble for Finisar.  

Finisar's revenue will fall 13% year over year at the midpoint of its current-quarter guidance, which is more severe when compared to the 4.4% year-over-year decline in its first-quarter revenue. As a result, Finisar doesn't look like a convincing investment given the troubles that it is facing, and the stock's valuation will make this clearer.

The verdict

Finisar's valuation clearly indicates that its earnings are expected to take a hit over the next year. The stock trades at 9.8 times last year's earnings, while it has a forward price-to-earnings (P/E) ratio of almost 11. This isn't surprising, as analysts forecast that Finisar's bottom line will drop from $2.03 per share in fiscal 2017 to $1.49 per share in fiscal year 2018.

Himax Technologies, on the other hand, might seem like an expensive bet given a trailing P/E ratio of 95, but a forward earnings multiple of 28 suggests terrific earnings growth. In fact, consensus estimates suggest that Himax's bottom line could more than triple in the next fiscal year. This makes Himax the better stock because its business is on the rise, while Finisar is having trouble with execution and end-market weakness.

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Harsh Chauhan has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Apple. The Motley Fool has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool has a disclosure policy.