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Technical Insight

Compound stocks race ahead of NASDAQ

The value of nearly all publicly-owned compound semiconductor companies across the globe has raced upwards over the past year. But, asks Michael Hatcher, which stock outperformed the rest with a seven-fold increase in just 12 months?

After a generally dismal performance following the false dawn of late 2003 to early 2004, compound semiconductor stocks suddenly seemed to be one of the hottest investments in town until a widespread sell-off hit the markets in late May.

Admittedly, many of those stocks could not have fallen much further without prompting the interest of NASDAQ s de-listing enforcers, but it is fair to say that a dollar invested in almost any stock relating to compound chip technology one year ago would have brought excellent returns and, in most cases, investors would have doubled their money.

The one exception is Endwave, the RF sub-system specialist based in southern California, whose value peaked in mid-2005 and then crashed as Northrop Grumman, its major shareholder, sold off vast quantities of stock. Each dollar invested in Endwave in early May 2005 was worth only 54 cents a year later, although the company s finances now appear to be improving with solid orders from wireless infrastructure divisions at major players including Siemens, Nera Networks and Nokia.

But Endwave is very much the exception. At the other end of the scale, any investors in RFIC maker Anadigics will have been very happy with their return. After missing the HBT boat back in the late 1990s, the Warren, NJ, firm - which outsources its epitaxy - has at last begun to recover that lost ground in the cell-phone market following the recent strong uptake of high-end handsets. Anadigics fab is now filling up fast to produce integrated transistor structures with combined HBT and PHEMT processes, as the devices find widespread use in multiband power amplifiers and switches.

As our leaderboard shows, Anadigics was comfortably the III-V industry s top-performing stock from May 2005 to May 2006. Every dollar invested would have brought a return of more than seven as the stock price reached the dizzy heights of $9.18. Although that value was almost seen in early 2004, you have to go back four years to June 2002 to find the last time that the stock breached $10. And even though the widespread tumble in the stock market has hit all the III-V valuations since May 9, Anadigics has stayed strong.

The second-best performer in our league, Finisar, has proved to be the outstanding supplier in the ever-turbulent fiber-optic components market, and, like Anadigics, its value has risen steadily over the past 12 months to reach a four-year high. During that time the Finisar business has changed massively, through the acquisition of Honeywell s Advanced Optical Components division, the world s top 850 nm VCSEL producer, and much of Infineon s former fiber-optic unit.

That metamorphosis has seen the Fremont, CA, firm, which has two compound semiconductor fabs, emerge as a key player in the datacoms sector of the optical components business. Growing demand for datacoms parts to meet the requirements of bandwidth-devouring applications like video delivery over IP networks is the chief reason for this, and Finisar has now indicated it is investing in extra capacity at its InP fab in Fremont as a result.

Back in early March, Finisar s stock soared in value with better-than-expected financial results. This seemed to have a favorable knock-on effect on fellow component makers Avanex and Bookham. In fact, if we d conducted our survey from April 2005 to April 2006, Bookham s stock would have been the top performer. Unlike Finisar s sustained increases, Bookham s spike to nearly $10 proved short-lived, and its value had halved at the time of writing after it revealed that profit margins had been hit by a shift in its product sales mix. The distinction between Finisar and Bookham is one of the subtleties of the fiber-optic communications business. Demand for components used in datacoms is quickly filling Finisar s fabs, whereas Bookham s InP facility remains largely underutilized because demand for components used in longer-haul telecom applications is rather slack in comparison. And fab utilization is seen as the biggest factor determining financial health for any III-V device manufacturer.

Nevertheless, good vibes surround communications in general, as applications such as voice-over IP, video on-demand and internet TV delivery begin to take root in public consciousness, and 3G phones sell like hot cakes. The bigger market picture looks good for the likes of Bookham, and investors in the firm will have seen an increase of 60% in share value over the past year, despite the more recent knock-back.The big question for Bookham investors now is whether it can fill its chip fab by exploiting the growing market with convincing product launches that can be scaled up to volume production.

This revival in fortunes - in terms of share valuations and market capitalization, if not quite yet in revenue and profit figures - is not limited to device manufacturers. The top-five performers listed in our survey include substrate manufacturer AXT and French MBE equipment vendor Riber, both of which have near-quadrupled in market value. Emcore, whose rapid ascent was charted in our March 2006 "Portfolio", has continued its upward trend and in early May it sailed past the $12 target price set by Jefferies and Company analyst John Lau, before it was hit by the dip in mid-late May.

With Emcore benefiting from the surge in demand for both its GaAs HBT material and fiber-optic components, as well as the buzz of expectation surrounding terrestrial photovoltaics, Lau revised his target to $16.

Increased share valuations often precede a period of good financial performance where it really matters - on the bottom line. Though wary of another "bubble", most investors in III-V stocks will be rubbing their hands in anticipation of further gains.

• Michael Hatcher does not own or intend to purchase any of the stocks in this article.

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