Celestica (CLS) stock has surged over the past year, more than tripling in value. The Toronto-based company has emerged as a noteworthy player in the artificial intelligence (AI) and data center market, supplying hyperscalers and other clients with much-needed hardware. I’m bullish on this “behind-the-scenes” AI company, noting improving margins and a strong growth forecast that appears underappreciated by the market.
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Here’s How CLS Stock is Benefiting from AI Demand
Celestica is a global leader in electronics manufacturing services (EMS). The firm provides supply chain solutions for industries like technology, healthcare, and aerospace. With operations spanning continents, it specializes in providing end-to-end design, engineering, and manufacturing support, notably around high-tech storage, computing, and networking hardware.
Celestica operates through two primary revenue segments: Advanced Technology Solutions (ATS) and Connectivity & Cloud Solutions (CCS). The former, which focuses on diversified markets like industrial, healthcare, and energy, has seen only moderate growth in recent years. But that’s not been too problematic as the CCS division, which caters to enterprise, telecom, and cloud customers, has seen rapid growth.
With enterprises, especially big tech companies, investing heavily in AI technologies, Celestica has capitalized on its ability to supply components and system essentials for these cutting-edge solutions. The Canadian group provides the critical hardware for AI workloads, including high-performance servers, storage systems, and networking equipment.
Seemingly, the business’ focus on being an ecosystem partner has positioned it well in a fast-transitioning industry. The firm has become a trusted partner of several major hyperscalers.
CLS’ Margin Expansion Contributes to a Healthy Balance Sheet
Celestica’s recent performance is core to my bullishness. Notably, the company has reported significant improvement in margins, contributing to a strong business outlook and balance sheet. The shift towards the CCS business has been an important factor in these improving margins.
The CCS EBIT mix grew from 79.8% to 93.7% sequentially in the last quarter, with the overall segment margin increasing to 7.6% in Q3 2024, up from 6.2% in Q3 2023. This more than offset a small fall in the ATS segment, where the margin fell from 4.9% to 4.8%. Overall the non-IFRS operating margin rose to 6.7% in Q3 2024, compared to 5.7% in Q3 2023.
This margin improvement is attributed to greater operating leverage, favorable product mix shifts, particularly in high-performance computing (HPS) products, and the CCS segment outgrowing the ATS segment. In turn, these factors contributed to a 22% growth in revenue and a 60% increase in non-IFRS adjusted EPS. More impressively, adjusted free cash flow surged to $74.5 million from $34.1 million in Q3 2023.
Celestica’s Growth Forecast Is Underappreciated
I’m equally bullish because of the company’s and analysts’ forecasts. For 2025, the business is projecting revenue of $10.40 billion and a non-IFRS operating margin of 6.7%, with a 15% growth in non-IFRS earnings per share. Excitingly, management suggests that the Ethernet switch market for 400G+ bandwidth is forecasted to grow at a 52% CAGR (compound annual growth rate) over the next three years, with Celestica being a world leader in this space.
Analysts expect the company to grow its earnings by 15.8% in 2025, practically in line with the company’s own forecasts but reflecting a slowdown from the 58.6% growth in 2024. However, the medium-term forecast sees this double-digit growth rate sustained, with an average annualized growth rate of 28%.
This rate of growth is very attractive when we consider that the stock is trading at just 24 times forward earnings. This growth rate and price-to-earnings ratio lead us to a price-to-earrings-to-growth (PEG) ratio of 0.86, inferring that the stock is heavily discounted. In fact, this PEG ratio represents a staggering 83% discount to the information technology sector as a whole.
I appreciate that some of this discount can be attributed to the fact that EMS providers typically have lower margins compared to original design manufacturers (ODMs) or original equipment manufacturers (OEMs). However, I believe the firm is overly discounted, given its impressive earnings growth and near-term margin expansion.
Is Celestica Stock a Buy, According to Analysts?
On TipRanks, Celestica stock comes in as a Strong Buy based on six Buys and two Holds assigned by analysts in the past three months. The average CLS stock price target is $79.88, implying over 14% downside potential. Shares have rallied over 230% in the past year.
The Bottom Line on Celestica Stock
Sometimes price targets fail to keep up with a stock that is experiencing rapid appreciation, and I think that’s what’s happening here. In fact, the two most recent analysts’ ratings have indicated further upside. However, my bullishness for CLS stock centers around the company’s growing business supplying hyperscalers in the AI and data center market. Celestica’s shifting focus toward this high-growth market has been positively rewarded by improving margins, sales, and earnings.
Notably, the stock’s valuation is core to my investment thesis. With strong earnings growth expected throughout the medium term, this EMS provider looks like a steal at 0.86 PEG. There aren’t many companies trading with ratios like this in the information technology sector.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
