Some quick thoughts from INVN Q2 conference call

Investment Analysis Clubs Saul’s Investing Discussions
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Hi all,

[Saul, you did so well to get out of this. Great timing and I would say some very astute thinking. Listening to the call, I 'm seriously considering revisiting the investment.]

I just finished listening through the prepared portion of the call. I 'm not so impressed with the CEO’s preachy style - he rambles a lot about the opportunities ahead. The thing that stuck me is that they are continuously trying to up the game, six axis to now seven axis and so on. On the surface, this looks good, but it can also be problematic. If one has to keep making new products at breakneck speed, it adds to R&D costs, and you don’t really have the time to amortise the expenses made to design the product. Anyways, I was left feeling a bit uneasy about this investment after hearing the prepared part of the call. I need to listen to the Q&A session to form an opinion of how things are going.

It appears the current quarter suffered from:

  • margin pressures because they had some large tier-1 customers (read Apple)
  • the mix of sales showed significant jump for North America (read Apple again)
  • inventory write down for older generation products, which they claimed was an one off event. I 'm a bit uneasy about this. The chip making business is notorious for being highly competitive. Big customers such as Apple and Samsung will always squeeze these guys out, or at least try to squeeze as much they can. The inventory management needs to be very very good here, otherwise there will be more write downs in quarters ahead. I 'm not suspecting Invensense’s ability to innovate, but I 'm questioning their inventory management.

With respect to guidance for the next quarter, this is what they said:

  • Revenues b/w $108 - $115M. That would be about 20+% increase in revenue sequentially assuming they make the mid-point.
  • Non-GAAP eps b/w $0.17 and $0.21 cents. They don’t expect write downs etc in the next quarter, so that’s good. Now, here’s the rub. I believe the analysts were looking for
    ** about $116.32 million in revenue, and
    ** approximately $0.30 per share in earnings.
    See this link for further details:
    http://newsletters.fool.com/1069/coverage/updates/2014/10/28…

The guidance is well shy of that. This I figure is the reason for the After Hours action :frowning:

A few other things, they did note that they expect margin pressure to continue next quarter (46-47% margin), expect to spend more on R&D (potentially good), and also expect to have more SSGA expense (not so good!).

It may be good to compare the guidance with what has been happening in the past several quarters (showing non-GAAP EPS):


=============
Quarter EPS
=============
Q2 15	0.05
Q1 15	0.08
Q4 14	0.07
Q3 14	0.15
Q2 14	0.21
Q1 14	0.14
Q4 13	0.15
Q3 13	0.19
=============

The table suggests that the business is pretty cyclic as far as earnings are concerned. It has some distinct peaks and valleys. Most component suppliers probably suffer from this sort of earnings fluctuations. New products have a ramp-up costs, which starts digging into the earnings from the previous generation of products. Then, when the new product is out and selling the earnings go up, only for the cycle to repeat … I know this is a big simplification but this can potentially explain the fluctuations at a very high 60,000 ft level.

Is it time to revisit this investment? Hang on for couple more quarters to see how the Apple relationship progresses? Thoughts?

Anirban

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Listening to the call, I 'm seriously considering revisiting the investment.

Anirban, when you say revisit the investment, do you mean get out of a position you are in, or get into a position. It’s not really clear what you are thinking.
Thanks,
Saul

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I was disappointed by the director double speak about “revenue mix”. Basically this is a pricing issue with a good old margin consequence but they couldn’t say that so they dressed it up to sound like a product mix sales issues.

The fact that it continues into next quarter suggests they are under real pricing pressure.

A

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Anirban, when you say revisit the investment, do you mean get out of a position you are in, or get into a position. It’s not really clear what you are thinking.

Saul, I 'm thinking of getting out of the position. It’s not a large position so that’s good.

I haven’t finished listening to the remainder of the call, in particular the question & answer session, but I 'm doubting their ability to compete and also turn profits. There’s a lot of competition in this area. ST Microelectronics is one, and it is much larger and has not been profitable for a while.

Anirban

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One other thing. They are now hitting $100M/quarter revenue, so getting to the $400M to $500M marks. At the 1.9B market cap, they are selling for slightly less than 4x of sales. Could be a takeover candidate by a bigger player? STM? Intel? May be?

Anirban

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I was disappointed by the director double speak about “revenue mix”. Basically this is a pricing issue with a good old margin consequence but they couldn’t say that so they dressed it up to sound like a product mix sales issues.

The fact that it continues into next quarter suggests they are under real pricing pressure.

This I think will continue as AAPL will always be able to command big price concessions in return for big volume orders. Combined with the speedy upgrade cycle, how do they ever see much profit after R&D is recovered.

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Just a quick ignorant question here as I have not looked at it at all, but given that Apple is the GIANT in the room, and the iPHone 6 has just launched, with all its requisite production and inventory, how does it get much better than this?

If earnings are distressed when the iPhone 6 is launching to tremendous fan fare and is in their cache, what happens when things are more normalized?

Again, ignorant question, as it just popped into my head as one would think that this should be the best of times for a company like INVN, not a time to explain pricing structure et al.

Tinker

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Just a quick ignorant question here as I have not looked at it at all, but given that Apple is the GIANT in the room, and the iPHone 6 has just launched, with all its requisite production and inventory, how does it get much better than this?

If earnings are distressed when the iPhone 6 is launching to tremendous fan fare and is in their cache, what happens when things are more normalized?

Hey Tinker,

Not an ignorant question. Its legit! This is the reason for the free fall for INVN in today’s trading.

So, for those interested in the positive spin, here’s the positive side. They have got business from Apple, Samsung, and most other Chinese top-tier OEMs. So as they sell more handsets, presumably INVN makes more monies as over time the production processes etc become more efficient. Now, the margins are not bad, in the high 30%'s so it’s not like they are terrible, just not as good as they were when they didn’t have Apple. I would think their revenue would look good as Apple is expected to sell a ton of iPhone 6 and pluses this year.

Then, the upside is the opportunity to get more Apple business from the Watch and the iPad, as they have a foot on the door. Its likely to be lower margin but high volume.

Given all this, the market basically corrected the multiple they were willing to attach to INVN. They made 13 cents in Q1 + Q2. Q3 is projected to be 19c at mid-point. Assume a 10% bump for efficiencies and volume increases in Q4, and we get Q4 at 21c. So based on an estimated EPS of 53c, the stock trading at $16 puts it at a 30x forward PE. That seems like an okay multiple for a business which has got some solid design wins in the recent past. The earlier multiple was just absurb. The market was also not happy with the management’s inventory write down, which demonstrated poor visibility on their part into demand.

The rub though is that Invensense is operating in a “commodity” market. They talked about 7-axis and 9-axis products in the conference call. Well, Bosch already has them and is selling them. I think STM also has similar offerings. One could think that there’s always going to be margin compression because of serious competition. Another view could be that there would be enough market space because of market expansion (people using feature phones in India migrating to smartphones, new categories like wearables etc) and the three top dogs will make a decent living.

INVN is probably still a good play on the Internet of Things theme. Bosch I believe is private and STM has debt … because of its fab line.

I have INVN shares. I sold a portion of my shares and substituted them with double DITM calls. With the multiple now back to more decent levels, I 'm expecting the good sales of new Apple phones to make a meaningful impact over the next two to three quarters. Hence, the bet using DITM calls.

Hope this helps.

Anirban

PS: There’s a longer more detailed post on the Rule Breakers site but I covered the gist of my post above.

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Whoa, that is a shellacking the likes I have not seen since, well, EXEL and anyone stupid enough to invest in it;). At least I did announce it was a stupid investment on my part.

I think the calls will probably play out well. INVN has moved into the lead position in a growing market and these things do tend to recover over time, particularly since INVN is now designed in to the new generation.

As for it being in an iPad, I’ve never noticed the lack thereof. But perhaps there may be a reason why.

Thanks Anirban.

Tinker

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I am making the perhaps dubious assertion that Infineon management is competent. If that is indeed the case ,then getting into Apple products even at lower margins was a smart move for the company. One that will pay off in time. Because big orders mean higher production levels which in turn mean reduced costs. These savings are not seen in the beginning, it will take a while to get the bugs out of the process. And it looks like iPhone 6 and 6+ are going to be big sellers . In the US at least the trade in value of your old phone covers much of the initial cost.

Apple can sell more iStuff by appealing to emotional factors of their customers, it’s not stuck in a strictly performance/ cost analytic basis for sales. Infineon is stuck there, it sells an almost commodity profit. So it is likely to have a lumpy profit picture with little likelihood of blow out profits for anything other than a short time. But that doesn’t mean that it can’t perform above average for a supplier company if the underlying IOT and iPhone market grows fast enough.

To me INFN at today’s price knowing what we know now, is more attractive that INFN price a couple of months knowing what we knew then. But in either case it is not high conviction for me, and not worth more than a very small position.

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sorry abut the Infineon rather than InvenSense name in the previous posts I’ve spent too much time looking at the symbol INFN…

gripe number 4,678 about lack of editing in MF boards. And why do I pick up goofs only after posting?

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gripe number 4,678 about lack of editing in MF boards.

I used to think that the boards should allow us to edit. Many of my posts contain typos. And some them, in hindsight, are just incredibly stupid. I think the reason that their is no editing feature is for the accountability that comes with forever posts. I imagine some people would even go back and change their predictions then say See??? I told you so!!"

It takes me longer to preview my messages now, but I agree with the reasoning.

Jeb

PS - please don’t read any of my early posts

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Some forums handle the problem by allowing editing for a fixed peiod only. That keeps one from rewriting history, but allows one to fix typos.

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I would like editing in the first couple of hours after the post only. Which would fix most of the dumb mistakes, broken links, and typos.And not cause the problem TMFJebbo brought up.

The biggest complaint I have about MF is the primitive board design. Because though I am a member of 2 paid services, it is mostly not for the MF stock picks but rather for the board comments.
The biggest problem with MF stock picks is that they hold most forever and thus refuse to admit they were wrong. A few picks appear to be inadequately researched (XONE ), maybe because of the self imposed pressure to pick a couple each month. Unless they are superhuman, sometimes the good idea department goes on strike. When that happens the best thing may be to do is to do nothing until the muse returns.

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