Which Segment Is Most Profitable for Texas Instruments?

In the previous part of this series, we discussed how Texas Instruments (TXN) has improved its profit margins as it has shifted to high-margin products and reduced its manufacturing footprint. The most profitable products were the analog ICs, as they are manufactured on old technology that has already paid off. Linear Technology (LLTC) and Analog Devices (ADI) have strong margins for the same reason.

Texas Instruments’ Analog segment contributes 62% toward the company’s revenue and is made up of high volume analog and logic, power management, high-performance analog, and Silicon Valley analog products. In fiscal 2Q16, Analog’s revenue was flat at $2.04 billion as strong demand for high performance and Silicon Valley analogs were offset by weakness in its other two analog products. The segment was largely impacted by weakness in demand from Apple (AAPL), but if we exclude Apple, Analog’s sales actually rose by 4% YoY (year-over-year), according to Credit Suisse analyst John Pitzer.

On a sequential basis, Analog’s sales rose by 9% in fiscal 2Q16. The segment’s operating margin rose from 35.5% in fiscal 2Q15 to 37.7% in fiscal 2Q16.

TXN’s Embedded segment sells MCUs (microcontrollers), processors, and connectivity products. The segment contributes 23% toward the company’s total revenues, and in fiscal 2Q16, the company witnessed strong demand for all three of its embedded products, which increased the segment’s revenue by 9% YoY to $755 million.

On a sequential basis, Embedded’s revenue grew by 4%. The segment’s operating margin rose from 19.5% in fiscal 2Q15 to 25% in fiscal 2Q16.

Rival Cypress Semiconductor (CY), which manufactures MCUs and connectivity products, also reported a 7.3% YoY growth in its 2Q16 revenue, indicating strong growth in the embedded space.

Apart from analog ICs and embedded products, Texas Instruments also sells calculators, royalties, DLP (digital light processing), and custom ASICs (application-specific integrated circuits). In fiscal 2Q16, the segment’s revenue fell by 4% YoY to $474 million as demand for all products except DLP fell.

Despite revenue declines, the segment’s operating margin rose from 29.8% in fiscal 2Q15 to 33% in fiscal 2Q16. The factory in which these products are manufactured has already paid off.

Texas Instruments supplies products in the automotive, industrial, communications, and personal electronics markets. The company witnessed strong growth in automotive, especially infotainment, and some verticals in the industrial. The personal electronics market was down due to the scale-back of iPhone production by Apple. However, Pacific Crest analyst Michael McConnell expects personal electronics sales to grow threefold in 3Q16 as Apple ramps up production of iPhone 7.

Next, we’ll look at Texas Instruments’ balance sheet.