NEW YORK (CNN/Money) -
Consumers have continued to show a healthy appetite for high-tech items this year...and that doesn't appear to be changing as the holiday season approaches.
But for investors, the best way to play the gadget geek trend might not be through the shares of the companies that make the hot MP3 players, digital cameras and camera phones, DVD players or flat-screen TVs -- stocks like Apple, Dell, Hewlett-Packard, Nokia and Sony, for example.
Instead, the stocks that could benefit the most are semiconductor companies that make components used in these devices. OmniVision Technologies, Pixelworks, Genesis Microchip, Zoran and SigmaTel are expected to be big winners.
Look at the phone and say cheese
Investors need to be aware that none of these stocks is cheap. Like most semiconductor stocks, they've enjoyed solid runs this year.
But they all have momentum and strong growth prospects on their side.
| * based on calendar 2004 estimates as of Nov. 25 ** based on long-term EPS growth projections ***SigmaTel went public on 9/19/2003|
| Source: Thomson/Baseline|
OmniVision, which makes an image sensing chip used in digital cameras and cell phones, reported sales and earnings for its fiscal second quarter that were much better than expected. The company generates nearly two-third of its revenue from chips used in cameras and phones, both of which are growth markets.
The stock has had a spectacular run this year, surging more than 370 percent. But Brian Alger, an analyst with Pacific Growth Equities, said that the stock should still have more upside unless overall economic conditions turn south.
"OmniVision is the best pure play for camera phones," said Alger. "And with economic data indicating that things are going well, I don't sense a whole lot of risk."
The stock's P/E of 35.5 times calendar 2004 earnings estimates seems reasonable considering that earnings are expected to increase 41 percent next year. What's more, OmniVision (OVTI: Research, Estimates) is expected to post 30 percent earnings gains annually for the next three to five years so it's price to earnings-growth (PEG) ratio is 1.2.
That's a discount to other well-known chip stocks such as Texas Instruments and Intel, which trade at 1.8 times and 1.9 times their expected long-term growth rates.
Digital TVs and MP3s under the tree
Genesis Microchip and Pixelworks, leading manufacturers of video processing chips used in flat-panel displays and digital televisions, have also had strong years. Their stocks are up 41 percent and 124 percent respectively in 2003.
Pixelworks (PXLW: Research, Estimates), whose customers include Seiko Epson, Samsung and Sharp, is expected to report an earnings increase of 76 percent in 2004. That makes the stock's multiple of 43 times 2004 earnings estimates at least palatable, if not exactly a screaming bargain.
Genesis Microchip (GNSS: Research, Estimates) trades at 38 times 2004 estimates and earnings are expected to increase 96 percent.
Cherrie Prinz, an analyst with D.A. Davison & Co., likes both stocks despite their premium valuations because she thinks that the big growth opportunities for them are still at least a year away. "Digital televisions won't hit big until prices come down and that probably won't be until next Christmas. There's plenty of room for PixelWorks and Genesis Microchip to grow," she said.
Zoran, which makes chips used in DVD players, is probably the best value of the consumer electronics chip companies, trading at just 25 times estimated 2004 earnings despite an expected growth rate of 41 percent next year and 20 percent over the long-term.
There have been some concerns about the DVD market starting to mature but Alger said that Zoran (ZRAN: Research, Estimates) is well positioned for continued growth because of steps it has taken to diversify. Earlier this year, the company acquired Oak Technology, a leading manufacturer of chips for personal video recorders, digital TVs and printers.
SigmaTel, which went public in September and makes audio chips used in MP3 players, has done extremely well since its IPO and should benefit from strong sales of digital music players this holiday season. SigmaTel's (SGTL: Research, Estimates) customers include Creative Technologies, which makes the Nomad brand of MP3 players (Creative also owns a stake in SigmaTel) and Rio, which sells the Nitrus MP3 player.
"The MP3 opportunity has been good but there's a lot further to go. The market hasn't fully recognized how advanced the delivery of music could wind up being," said Michael Mahoney, managing director of EGM Capital, a hedge fund that owns shares of SigmaTel.
Analysts quoted in this story do not own shares of the companies mentioned and their firms have no investment banking relationships with the companies.