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Unity Software Inc(U-N)

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2 Underrated Stocks That Are Screaming Buys in October

Motley Fool - Tue Oct 31, 2023

October is winding down. I'm expecting the doorbell to work overtime tonight as the trick-or-treaters plead for candy. But first, let's look at a couple of great investment ideas.

The stock market is trending down again amid mixed signals from recent economy reports, with the tech-heavy Nasdaq Composite (NASDAQINDEX: ^IXIC) dropping nearly 10% from the 52-week highs of mid-July. Many of the year's high-flying market darlings have hit the brakes on their sugar high, often showing double-digit percentage dips in recent stock charts.

But one investor's pain is another's opportunity. When stock prices are low, it's high time to look around for great companies whose stocks are found in Wall Street's bargain bin. I have found two top-notch tech stocks that look like irresistible buys nowadays. Are they right for your portfolio? Let's find out.

Silicon Laboratories

You may have noticed Silicon Labs ' (NASDAQ: SLAB) recent stumble. The stock has plummeted 22% in the last 30 days. The dip came after the designer of microchips for wireless communications beat earnings and revenue expectations in the second quarter -- the opposite reaction of the jump one might expect from a nice surprise. So what gives?

For Q2 2023, Silicon Labs reported a 7% year-over-year decline in revenue, attributed to an inventory overload in its Home and Life division. The electronics manufacturing pipeline is just overloaded with unsold components and modules from recent quarters, which lowers the demand for brand-new chips. Sales in this particular segment fell by 33% year over year, and that's no small number.

Management's guidance for the third quarter was another spoonful of bitter medicine, predicting revenue between $190 million to $210 million and adjusted earnings per share (EPS) of $0.45 to $0.73 -- both well below Wall Street's lofty expectations, and also down from the same period of 2022.

But let's not write off this rock-solid semiconductor company quite yet. Analysts see a bright spot in the long run, as revenues are projected to restart their stalled growth in 2024. The initial sales growth should be modest, somewhere in the 6% to 7% range in the full-year comparison. But these aren't numbers to sneeze at; they signal a broad market recovery with plenty of long-term growth on tap for the patient investor.

The semiconductor industry is notorious for its cyclicality, and Silicon Labs is no exception. But the ongoing trend toward smart, connected devices everywhere suggests that Silicon Labs could be poised for significant growth, even if it means sailing through some choppy waters in the short term.

So there may be more bumps along the way. For those willing to weather some volatility, Silicon Labs presents a robust buying opportunity today. That dipping price chart should bend upward again over the next year or so.

Unity Software

Shares of Unity Software(NYSE: U) took a steep 21% nosedive in just the past month, extending its 90-day losses to an eye-watering 45%. You'd think the company had announced it was pivoting to selling analog fax machines with those kinds of numbers. But what really happened?

In September, the game engine and virtual worlds powerhouse dropped an incredibly unpopular policy update: The introduction of a new up-front install fee for games. The community's response was anything but unified, leading the company to quickly backtrack on its decision. Marc Whitten, the head of Unity's creative production tools, eventually lightened the fees and issued an apology, admitting they'd struck the wrong chord.

Investors might be tempted to hear these complaints and think the company is off track, but that's far from the truth. Unity's fundamentals remain robust. The company's game engine is responsible for the creation of over half the world's mobile, console, and PC games. A freemium model allows small developers to jump into the ecosystem easily, and the company has started to diversify beyond gaming, penetrating markets like augmented and virtual reality.

Here's where the numbers add extra flavor to this narrative. Unity's forward P/E ratio currently sits at 22.4, with a price-to-sales (P/S) ratio of 5.3. Although not exactly bargain-bin metrics, they are relatively affordable for a company that has shown a top-line compound annual growth rate (CAGR) of 38.5% over the past five years.

What about profitability? While the company hasn't crossed into GAAP profitability yet, its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) margins have flipped to positive over the last three quarters. For 2023, Unity Software expects an adjusted EBITDA margin to land at a midpoint of positive 15.3%, up from negative 3.7% in 2022.

And here's the best part. Unity announced a leadership transition on the heels of the fee system uproar, and I see the potential for a major upgrade. Longtime CEO and chairman John Riccitiello stepped out on Oct. 9, putting the company under interim C-suite management while looking for a permanent replacement. I really hope that the board offers that permanent opportunity to the interim CEO -- Jim Whitehurst, formerly CEO of Red Hat and president of IBM. Whitehurst's track record in the tech sector is nothing short of stellar, and I can't wait to see how he plans to complete Unity's turnaround.

So, is Unity Software's recent dip a Pitfall, or more like a Miner 2049er gold rush? If you ask me, it's the latter. With its far-reaching influence in gaming and growing ventures in new markets, Unity Software could provide a hearty long-term return -- assuming you can stomach the recent volatility and a new management team. Fingers crossed that Unity sticks with Mr. Whitehurst.

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Anders Bylund has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Unity Software. The Motley Fool recommends Silicon Laboratories. The Motley Fool has a disclosure policy.

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