On Semiconductor: A Hidden Gem In The Tech Sector Waiting To Be Discovered

On Semiconductor (OnSemi) is presented as a strong buy for long-term investors, despite recent stock underperformance attributed to a cyclical downturn in its automotive and industrial end markets. CEO Hassane El-Khoury anticipates Q2 2025 will mark a bottom, with recovery signs emerging in industrial and automotive sectors, particularly China's EV market, driving growth in H2 2025. The company has strategically repositioned itself through a 'Fab Right' strategy, optimizing manufacturing, reducing costs, and focusing on high-growth silicon carbide (SiC) technology, targeting a 10-12% CAGR and 53% gross margins by 2027. Despite near-term challenges like pricing pressure and under-absorption impacting Q2 guidance, the stock is considered potentially undervalued based on P/S/G, PEG, and P/FCF metrics, offering a value-oriented growth opportunity as end markets rebound and strategic initiatives mature.

Analysis

On Semiconductor (ON) is navigating a significant cyclical downturn in its core automotive and industrial markets, which has resulted in recent stock underperformance. However, management projects that Q2 2025 will mark the cyclical trough, with an anticipated recovery in the second half of the year driven by industrial demand and strong EV penetration in China. Strategically, the company is executing a 'Fab Right' initiative to optimize its manufacturing footprint, focus on high-growth silicon carbide (SiC) products, and improve cost structures, targeting a 10-12% revenue CAGR and a 53% gross margin by 2027. Near-term headwinds are evident in the Q2 guidance, which forecasts flat sequential revenue of approximately $1.45 billion and a compressed non-GAAP gross margin of 36.5%-38.5%, impacted by 900 basis points of factory under-absorption charges and competitive pricing pressures. Despite these challenges, the investment thesis is built on valuation, as the stock appears undervalued on several forward-looking metrics. Key indicators include a 2026 forward PEG ratio of 0.55 and a price-to-free-cash-flow (P/FCF) of 17.94, both suggesting the market is not fully pricing in the company's long-term earnings growth and cash generation potential, which is further supported by a commitment to repurchase shares with 100% of 2025 free cash flow.

Key Decisions for Investors

• For long-term investors, the current cyclical weakness may represent a 'growth at a reasonable price' (GARP) opportunity, as valuation metrics like the 2026 forward PEG ratio of 0.55 and a P/FCF of 17.94 suggest significant potential upside if strategic initiatives succeed.
• Investors should closely monitor the Q2 2025 earnings release to validate management's claim of a cyclical bottom, focusing on revenue relative to peer performance and whether gross margins hold within the guided 36.5%-38.5% range despite pricing and utilization pressures.
• Key risks to monitor are the pace of recovery in EV markets outside of China and ongoing pricing competition, which could cause OnSemi to lag its peers during a sector-wide rebound.
• Track the company's free cash flow generation and the execution of its commitment to return 100% of 2025 FCF to shareholders via buybacks, as this provides a direct valuation support and a tangible return mechanism.