Ever since Barclays presented Cirrus Logic, Inc. (NASDAQ:CRUS) in negative light at its TMT (technology, media, and telecommunications) conference, shares have dropped back to the teens. Barclays said that it expects lower average selling prices would hurt sales this year. Concern was high that that its largest customer represented 85% of revenue in the fourth quarter.
Reliance on one customer
Cirrus relies on Apple Inc. (NASDAQ:AAPL) for more than half of its revenue. This is a glaring red flag, but is not anything new for investors. Still, the ominous decline in unit sales for Apple’s iPhone 5 will hurt Cirrus Logic, Inc. (NASDAQ:CRUS). The supplier saidin a filing that average selling prices are expected to fall, while gross margins will be between 50% and 52%.
Apple is known to be a tough dealer with suppliers, pressuring them to provide the lowest possible cost at minimal margins. Just ask OmniVision Technologies, Inc. (NASDAQ:OVTI) or Nuance Communications Inc. (NASDAQ:NUAN). OmniVision did not provide in-depth detail on its arrangement with Apple, but suffered from weak margins after building up inventory in anticipation of providing the image sensors to Apple.
Voice recognition maker Nuance also suffered from lower margins, though the decline was less severe. Nuance operates in many other areas of the market, which helped sustain profit margins:
OVTI Gross Profit Margin TTM data by YCharts
To diversify its business beyond health care and Apple products, Nuance acquired Tweedle Connect for $80 million. Tweedle Connect aggregates third-party applications and content for in-car infotainment systems. By combining voice recognition from Nuance’s Dragon Drive with the acquisition, investors should benefit with the expansion in the car-entertainment segment.
OmniVision shares were already up 15% in a month, in anticipation of strong quarterly earnings. In the last two quarters, the company has exceeded consensus estimates. Even with a P/E of 23, the forward P/E is just 9.8. Last month, the company announced the OV9728 sensor for high definition 720p video devices. The sensor was built around OmniVision’s 1.75-micron OmniBSI+ pixel.
The core area of sales growth is with smartphone camera sensors, but the company is diversifying its revenue sources. OmniVision is capitalizing on its advantage in low-light sensors by supplying for Smart TVs, surveillance, medical imaging systems, and portable devices. These applications are also outside of the smartphones and tablet space.
OmniVision reported fourth-quarter results last month and stunned short sellers by earning $0.31 per share. The consensus estimate was just $0.21 per share. OmniVision also provided guidance for the current quarter: $0.35-$0.52 per share on revenue between $355 million-$390 million. The upbeat outlook was enough to push shares up another 20% in a day, fueled by a nearly 15% short float.
Negatives weigh on the stock
Heavy competition in the smartphone market is expected to hurt unit growth in the next few years. In fiscal 2012, unit growth for portable audio products was 35%, but Barclays expects it to fall to 20% in 2014 and as low as 13% in 2016.
Weak quarterly earnings
Cirrus Logic, Inc. (NASDAQ:CRUS) earned $0.59 per share, missing estimates by $0.22. Sales were $206.9 million, but missed estimates by around $3 million.
Weak outlook
For the current quarter, Cirrus Logic, Inc. (NASDAQ:CRUS) expects sales of between $150 million-$170 million. This is well below the $195.2 million consensus. In April, the company warned that it would write-down more than $20 million in product. It is very likely that the lowered forecast was due to Apple slowing down production of the iPhone 5.
Positives beyond the quarter
The weak short-term outlook could be a buying opportunity. Apple is planning on refreshing the iPhone 5, and if Cirrus Logic is selected as the audio chip supplier, its shares will be oversold. This will give investors a chance to accumulate shares in the interim. Cirrus has a strong IP portfolio, exposure to fast growing markets, and has a business in the LED lighting market.
LED lighting
Investors holding a position in Cree, Inc. (NASDAQ:CREE) will appreciate the short-term negative fluctuations leading to buying opportunities. Cirrus Logic is targeting the retrofit LED lighting market. As this market grows from 1% in 2011 to the double digits within a few years, Cirrus Logic will benefit.
The LEDs from Cirrus Logic, Inc. (NASDAQ:CRUS) support dimmers and the technology is protected by an extensive IP portfolio. They are also programmable, which will expand its market in the commercial and tubes market.
Foolish bottom line
Cirrus Logic, Inc. (NASDAQ:CRUS) has no debt and $237 million in cash. A share buyback is ongoing, with more than 100 million shares still scheduled to be bought back. Investors should expect gross margins to decline below 50%, which is already reflected in its share price. In the fall, Apple will likely announce a new iPhone. Investors could build a position in Cirrus ahead of that.
Chris Lau has no position in any stocks mentioned but could buy shares after the allowed restriction time elapses. The Motley Fool recommends Nuance Communications. The Motley Fool owns shares of Cirrus Logic and Nuance Communications.
The article This Stock Plunged, But Expect a Rebound Soon originally appeared on Fool.com.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
