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A Spec Bet on the Chipmakers

Two analysts are covering the exact some company, Cramer told Mad Money viewers, but they’re putting opposite ratings on the stock. Who’s right? That was the subject of this week’s Speculation Friday segment.

The stock in question was Entegris, a near $5 semiconductor materials names. The company makes over 10,000 products that are used to keep chip and disk-drive materials contamination free during the manufacturing process. While Cramer sees the semi industry moving away from its cyclical past and toward a more secular growth pattern, thanks to the rise of the mobile Internet, Citigroup disagreed.

On Feb. 3, Entegris beat expectations, reporting its first profit since 2008’s first quarter, and raised guidance to boot. But that wasn’t enough for Citi. The bank’s analyst gave a nod to the earnings, but stated that semis as a whole would slow in the first half of 2010 as a result of oversupply. He also said that spending on semi equipment throughout the recession hadn’t declined enough to drive a multiyear spending cycle going forward. And he worried that the sector’s rally, over 65 weeks, was close to its historical limit, one that usually followed with a 25% to 30% decline.

It was Bank of America that put ENTG in the buy column. This analyst said he likes Entegris because it’s business is more leveraged than most of its peers to the actual number of semi units that are produced. So as utilization rates across the country rebound, the company should sell more product.

Cramer said he agreed with BofA, arguing that Citi was missing the effect that the “mobile Internet tsunami” would have on companies like Entegris. The more Apple iPhones and netbooks that are sold, the more chips revenues we’ll see as well. And that bodes well for chipmakers everywhere.

Citi and analysts of similar mind are mistaking 2010 for the semis cycle of 2003-2004, where oversupply caused an inventory correction. But Cramer said there has been only one quarter of sequential inventory increase this time around, compared to three back then. Also, inventory levels are still down 20% from the peak in Q3 of 2008, but in Q4 of ’03, they’d only dropped 2%.

Investors should also take into account that corporate PC demand in the first quarter of 2004 had jumped 24% from the previous peak, Cramer said, while the current demand is up only 0.7% from the previous peak. And Philadelphia Semiconductor Index is down to 326 right now, thought in 2004 it had bottomed at 358. Cramer said he has a hard time calling the chip stocks overvalued given that they are lower now than they were during that previous cycle.

As for the company itself, Entegris reported a sales jump of 30% year-over-year last quarter, with a 23% sequential increase in unit-driven sales and a 56% move in those that were capital driven. Management also said the order patterns from Q4 have carried over this into this year, and Cramer believes them, considering they have delivered upside surprises for the past three earnings reports.

Entegris is a speculation play, but it’s also the largest company by revenue in the semiconductor consumables sector. And it has a strong product line with a diversified list of customers, which keeps the company from taking too big a hit if one of them goes under. Cramer also likes the improving balance sheet and growing footprint.

So how high could ENTG go if this bet paid off? Using recent M&A activity in the sector as a guide, Cramer said, this $4 and change stock could be worth closer to $9, or a gain of 225%.

Cramer's charitable trust owns Apple.

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