Wafer Maker Still Looks Cheap After Ninefold Jump

Absolutely, for four reasons. Let's look at each.

Reason 1: Demand for silicon wafers is soaring. The Frisbee-sized discs are used to make computer processors, iPod memory and the brains behind everything from car power steering systems to refrigerators. MEMC also makes solar wafers, demand for which is growing faster than 30% a year, much faster than that for chips. By 2010 solar wafers, from which most solar-energy cells are made, are expected to make up 38% of the overall silicon wafer market, up from 23% in 2005. MEMC has signed for solar wafer supply contracts worth $15 billion to $18 billion over 10 years. Its sales are expected to increase 25% this year and next. Since the costs involved in making wafers are largely fixed, profits should rise even faster. Analysts are looking for a 60% jump in earnings per share this year followed by a 27% increase next year.

Reason 2: MEMC has a big "poly" advantage. Poly silicon is the stuff that's used to make the wafers. It's extraordinarily expensive right now. In 2000 you could have bought a kilogram of poly for $9. At the time of our most recent write-up of MEMC (April 2006, recall), you would've paid about $50. Now poly runs about $80 a kilogram for long-term contracts and more than $200 a kilogram at spot prices. MEMC, as we've noted in the past, makes 95% of the poly it uses. So while other wafer makers' increased sales are largely being offset by increased materials costs, MEMC is cashing in. In an industry where many players are barely profitable, it's turning 42 cents of each dollar in sales into operating profit. And the company says it'll double its poly production by 2010.

Reason 3: The strong get stronger in the wafer business. MEMC is one of only four manufacturers qualified to make the largest silicon wafers, which measure 300-millimeter (about a foot) in diameter. About 10 producers make 200-millimeter wafers, the next biggest size. Since more chips can be cut from bigger wafers, customers pay higher prices for them. Right now 300 mm wafers go for around double the price per unit area of 200 mm ones. MEMC is collecting the more lucrative rates because it had the financial resources to build capacity for bigger wafers. Smaller competitors are struggling right now, which industry watchers say should lead to consolidation and further market-share gains for MEMC.

Reason 4: The stock still looks cheap. You'll pay 21 times this year's earnings forecast at the moment. That's a premium of about 15% to the broad market's price/earnings ratio. So for your money, you should demand at least 15% more than the market's expected earnings growth in coming years. Wall Street figures the company's earnings growth should average 30% over the next five years. It could average half that and still make the stock a good deal at today's price. But MEMC has had no trouble meeting expectations of late. It topped Street earnings forecasts in each of its past four quarters.

This time, the stock comes to our attention via our Efficiency Experts screen. It looks for companies that are generating big profits relative to the value of capital they invest. A high return on invested capital is an excellent sign for long-term shareholders, as it means the profits a company retains today will likely be reinvested at lucrative rates. Have a look at our full list of screen demands and the seven other companies that made the cut. And as always, pull up a fresh list of efficiency experts anytime using our stock screener.