What gives?
So let’s get this straight: Dolby holds a massive size advantage over its competitors, is cash-rich, has a decent earnings yield, boasts healthy margins, and achieves seemingly strong returns on invested capital. Why, then, is the stock still trading 30% below its 52-week-high set last May?
Let’s turn to a table that might be helpful:
DLB Return on Invested Capital data by YCharts.
First of all, while its ROIC seems healthy, it’s important to note the number is the lowest Dolby has seen in the past five years. In fact, apart from the improvement in 2010 — during which the share price incidentally spiked — returns on invested capital have steadily marched downward.
So what’s happening? While Dolby has shown encouraging progress in newer initiatives like Dolby Atmos in the cinema and Dolby Voice to improve teleconferencing, these categories certainly won’t sustain the business anytime soon. In short, with a mobile and tablet boom firmly under way, Dolby’s still in the dog house because investors fear the company won’t be able to transition out of its current state of over-reliance on the stagnant PC, gaming, and consumer electronics markets.
To be sure, PC revenue was still responsible for 29% of Dolby’s licensing and were flat from the prior year, and consumer electronics and gaming made up about 17% and 10%, respectively, with each category down 12% year over year.
The upside
Meanwhile, mobile revenue was up a whopping 35% from the year-ago period and made up 11% of licensing in the most recent quarter, and Dolby’s tech is now present in one-quarter of all tablets and smartphones, thanks largely to QUALCOMM, Inc. (NASDAQ:QCOM)‘s decision early last year to integrate support for the Dolby Digital plus platform directly into its Snapdragon mobile chips. In addition, Amazon.com, Inc. (NASDAQ:AMZN) is using Dolby’s audio tech to differentiate its Kindle Fire HD devices from the rest of the tablet pack. This not only bodes well for Amazon’s own future high-margin digital sales, but also helps Dolby dispel the notion people shouldn’t expect decent sound from their mobile devices.
In another bright spot, broadcast revenue now represents more than 33% of licensing and rose more than 9% from the first quarter of 2012. While Dolby has permeated the U.S. and European markets for broadcast sound, it’s now placing an increased focus on integrating new solutions like its format for consumer 3-D without glasses. In the rest of the world, where broadcast development is finally picking up steam, Dolby is nicely positioned to ensure its standards are adopted as more countries convert to digital television.
The verdict
Even if Dolby’s core PC and consumer electronics markets continue to deteriorate, long-term investors can sleep sound knowing the company has laid its foundation for success in new markets going forward. In the end, while the most recent quarter’s results weren’t quite enough to convince Mr. Market of a full-fledged turnaround, I think it’s time to blow that whistle and let this dog come inside.
The article Is Dolby Out of the Dog House Yet? originally appeared on Fool.com and is written by .
Fool contributor Steve Symington has no position in any stocks mentioned. The Motley Fool recommends Amazon.com and Dolby Laboratories. The Motley Fool owns shares of Amazon.com and Qualcomm.
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