Teradyne has gotten torched over the last six months - since October 2024, its stock price has dropped 42.9% to $71.96 per share. This might have investors contemplating their next move.
Is there a buying opportunity in Teradyne, or does it present a risk to your portfolio? Get the full breakdown from our expert analysts, it’s free.
Despite the more favorable entry price, we don't have much confidence in Teradyne. Here are three reasons why you should be careful with TER and a stock we'd rather own.
Why Is Teradyne Not Exciting?
Sporting most major chip manufacturers as its customers, Teradyne (NASDAQ: TER) is a US-based supplier of automated test equipment for semiconductors as well as other technologies and devices.
1. Long-Term Revenue Growth Disappoints
A company’s long-term sales performance is one signal of its overall quality. Any business can experience short-term success, but top-performing ones enjoy sustained growth for years. Unfortunately, Teradyne’s 4.2% annualized revenue growth over the last five years was sluggish. This fell short of our benchmark for the semiconductor sector. Semiconductors are a cyclical industry, and long-term investors should be prepared for periods of high growth followed by periods of revenue contractions.
2. Shrinking Operating Margin
Operating margin is an important measure of profitability as it shows the portion of revenue left after accounting for all core expenses – everything from the cost of goods sold to advertising and wages. It’s also useful for comparing profitability across companies with different levels of debt and tax rates because it excludes interest and taxes.
Analyzing the trend in its profitability, Teradyne’s operating margin decreased by 8.7 percentage points over the last five years. This raises questions about the company’s expense base because its revenue growth should have given it leverage on its fixed costs, resulting in better economies of scale and profitability. Its operating margin for the trailing 12 months was 21.1%.
3. Free Cash Flow Margin Dropping
Free cash flow isn't a prominently featured metric in company financials and earnings releases, but we think it's telling because it accounts for all operating and capital expenses, making it tough to manipulate. Cash is king.
As you can see below, Teradyne’s margin dropped by 5.1 percentage points over the last five years. Continued declines could signal it is in the middle of an investment cycle. Teradyne’s free cash flow margin for the trailing 12 months was 16.8%.
Final Judgment
Teradyne isn’t a terrible business, but it doesn’t pass our quality test. Following the recent decline, the stock trades at 17× forward price-to-earnings (or $71.96 per share). This valuation tells us it’s a bit of a market darling with a lot of good news priced in - you can find better investment opportunities elsewhere. We’d suggest looking at the most dominant software business in the world.
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