There is a dual tailwind expected to push the semiconductor industry higher over the next five to seven years. First, the overall demand for chips is rising as the world goes digital, cars get electrified, and artificial intelligence (AI) use cases expand. Then there's the fact that the design of these chips is also getting increasingly complex and expensive.
That could spell an opportunity for a software design company like Ansys (ANSS -0.13%). Electronic design automation (EDA) software is dominated by the big three -- Synopsys (SNPS -0.99%), Cadence Design Systems (CDNS -1.19%), and Siemens (OTC: SIEGY) EDA (formerly Mentor). However, Ansys plays an important role in chip design and manufacturing, too. Is the stock getting ready to soar?
Ansys is a dominant force in engineering and physics simulation
You've probably heard of Autodesk (NASDAQ: ADSK), the maker of computer-aided drafting and design software AutoCAD, which is used primarily for architecture, engineering, construction, and manufacturing. Well, EDA software from Synopsys and Cadence goes beyond what Autodesk does and focuses on the microscopic world of designing electrical circuits with semiconductive material. Ansys' powerful computational software is complementary to EDA software, as it helps engineers (mechanical, electrical, etc.) simulate how their creations will behave in the real world.
Just as more chips and growing design challenges propel Synopsys' and Cadence's revenues higher, the same effects are also lifting Ansys -- although Ansys is a far smaller software outfit at this point. Use cases like new semiconductor chemistry in support of electric vehicles, battery technology, big AI systems, and shaping the billions of transistors on advanced chips in a chip fab all make use of Ansys' extensive software suite.
Data by YCharts.
A turbulent downturn coming to an end?
The last few years have been tough for Ansys shareholders. The stock boomed early during the pandemic when the world went virtual and chip shortages wreaked havoc on global supply chains. But that gave way to a severe downturn of chip sales that began to crop up at the end of 2022 -- and which is still continuing today.
As a result, Ansys went from low-teens-percentage revenue growth to just single-digit-percentage growth in 2022 and 2023. Net income and free cash flow under generally accepted accounting principles (GAAP) have also gotten bumpy due to a slowdown in some customer spending, as well as Ansys' own investments into its capabilities (like the use of new Nvidia GPUs to boost its software's computation power, and the acquisition of small chip design company Diakopto this past summer).
Data by YCharts.
However, the semiconductor industry is expected to grow at about a 7%-a-year average growth rate through 2030, at which time it could account for $1 trillion a year in global spending. Numerous chip designers are ramping up their activity, and partner fabs (which all use Ansys simulations) Taiwan Semiconductor Manufacturing, Samsung, and Intel are retooling for the expected expansion. Even fab equipment makers like ASML use Ansys software in computing how their machines will behave when making the most advanced chips. Ansys should be back in double-digit percentage growth mode as it enters 2024.
Time to buy Ansys stock?
Management's guidance is for full-year 2023 GAAP earnings per share (EPS) of $5.32 to $5.95 -- or $8.39 to $8.88 on an adjusted basis, with the discrepancy between the two metrics primarily driven by stock-based compensation and amortization of acquired assets.
Based on the midpoint of this outlook, the stock currently trades for about 52 times expected EPS, or about 34 times adjusted EPS. It isn't a cheap stock, but it does trade for a bit less than its peers Synopsys and Cadence. Ansys could make a solid software addition to a basket of top semiconductor stocks for the long term.
Data by YCharts.
Given the premium valuation, I'm waiting to see some commentary from Ansys on what it thinks is in store for 2024 as the chip market starts to recover from a deep downturn. Nevertheless, Ansys is on my watch list.
