Ignore The Noise, Correction Presents A Good Entry Opportunity
David Koh | Aug 23, 2017 03:57AM ET
Summary
- Cirrus Logic is an audio-chip supplier with healthy financials, but has recently suffered a sharp correction due to softer guidance for Q2, despite beating both sales and earnings forecasts for Q1.
- The company currently derives about 79% of its revenue from Apple (NASDAQ:AAPL), so if the new iPhone 8 takes off, Cirrus will be one of the main beneficiaries.
- After its ~14% correction since the release of Q1 results, the audio-chip maker now trades at 13.7x FY2017 P/E, with consensus forecasts putting earnings growth at 20%. We think this presents investors with a reasonable price to acquire shares in Cirrus.
Earnings beat, but shares drop
Cirrus Logic (NASDAQ:CRUS) is a US-based audio-chip maker with main revenue exposures coming from China, Hong Kong and the United States. As of FY2017, the company has a return on invested capital of 21.8%, EBITDA margin of 25.1% and free cash flow of $318.5 million (9.2% FY2017 FCF yield). The company also have a very strong net cash position, holding $164 million in cash, with no debt on its balance sheet.
In its recent Q1 results, Cirrus reported sales and earnings that both beat consensus estimates. Sales came in at $320.73 million versus expectations of $320.30 million, earnings per share came in at $0.810 versus expectations of $0.662. Only guidance for Q2 sales was ‘soft’, with the company forecasting sales for Q2 to come in at $390 million to $430 million, which is slightly lower than Q2 last year’s $428.62 million, if the midpoint is taken.
Due to this imperfection, the market has proceeded to punish Cirrus’ share price by ~14% since the Q1 earnings release, as can be seen in the price chart above. We think this correction is likely unjustified, considering that the company seem to be on-track to meet its EPS forecast of $4.75 for FY2018, as the company does have a consistent history of beating earnings forecasts, as can be seen in the table below.
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iPhone 8 & Other Growth Catalysts
As of FY2017, Apple (NASDAQ:AAPL) remains Cirrus Logic’s largest client, representing about 79% of its revenues, with Samsung (KS:005930) Electronics (OTC:SSNLF) coming second, representing 15% of revenues.
Given its revenue mix, the oncoming iPhone 8 launch should have a pronounced impact on Cirrus’ future sales orders from Apple, providing a near-term upside catalyst if Apple continues to deliver record sales. However, client concentration could be a double-edged sword, as the market tends to worry that Apple may try to in-source its audio chip-making. But we believe that the risk of RF semiconductors being in-sourced remains low, given the high technical barriers to entry and protection of intellectual property.
In 2014, Cirrus acquired Wolfson Microelectronics, which helped it gain access to the Android smartphone market, effectively reducing its dependency on Apple. Today, mid-tier smartphone players such as Lenovo and Huawei have also begun using Cirrus’ Hi-Fi codecs and amplifiers in their smartphones, in addition to giants such as Samsung, providing the audio-chip supplier with immense growth potential.
Reasonable Price
After disappointing Wall Street with ‘soft’ projections for Q2, share price for Cirrus has corrected to attractive levels compared to its fellow chip-makers. It’s competitors such as Dialog Semiconductors and Analog Devices are currently trading at historical P/Es of 23x and 22x respectively, while Cirrus trades at less than 14x, with similar earnings growth profiles going forward.
With a forecasted earnings growth rate of 20% (based on $4.75 EPS forecast for FY2018), we think that this correction presents investors with a reasonable & attractive valuation to enter Cirrus Logic.
Disclosure: We have no positions in any stock mentioned above.
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