Is GoPro's 20% Rally Over the Past Month Sustainable?

Shares of GoPro (GPRO 0.58%) have rallied more than 20% over the past month on two positive headlines. The first was the announcement of a multiyear alliance between GoPro and Red Bull as the "exclusive provider of point-of-view imaging technology" for the energy-drink maker's media productions and events.

The second was JPMorgan analyst Paul Coster's claim that sales could fall less than expected during the second quarter, based on GoPro CFO Brian McGee's comments at a recent conference. McGee also claimed that GoPro had shown its Hero 5 and Karma drone to retailers, suggesting that both devices were on track for a holiday launch.

Image source: GoPro.

But despite GoPro's recent rebound, the stock remains down nearly 40% for the year and more than 80% over the past 12 months. I believe that investors shouldn't chase GoPro's recent headline-driven momentum, which seems boosted by a short-squeeze, for three simple reasons.

1. The Karma and Hero 5 are in trouble

GoPro is relying on the Karma and Hero 5 to be massive sales drivers during the fourth quarter. Based on GoPro's first-quarter sales and analyst estimates for the second and third quarters, GoPro needs 37% to 83% annual sales growth during its fourth quarter to hit its full-year forecast of $1.3 billion to $1.5 billion.

That lofty target would be comparable to the sales it generated during the launch of the Hero 4 cameras in the fourth quarter of 2014. The problem is that the action-camera and drone markets are now saturated with devices at all price tiers. Falling component prices have also enabled rivals to launch action cameras with comparable specs and new features like 4G connectivity, motion-sensing, and 360-degree panoramic views.

Yi Technology recently released a camera with the same Ambarella (AMBA 2.47%) chipset as GoPro's Hero 4 Black at half the price. Yi's device even includes a touch LCD display similar to the Hero 4 Silver, which the Black inexplicably lacks. Xiaomi, one of Yi's top investors and vendors, recently launched a 4K drone that costs $40 less than GoPro's 4K-capable Hero 4 Black. These plunging prices indicate that by the time the holidays arrive, the Hero 5 and Karma could be overwhelmed by cheaper and more impressive cameras and drones.

Yi Technology's 4K Action Camera 2. Image source: Yi Technology.

The Karma will also likely be sold as an accessory for existing GoPro cameras, which would make it much pricier than rival devices. GoPro will also likely struggle in the high-end market, since Apple (AAPL 0.12%) has given DJI Innovations, the top drone maker in the world, feature bay displays at over 400 of its brick-and-mortar stores.

2. GoPro is still working with Ambarella

Last quarter, Ambarella offered a surprisingly rosy forecast for the action-camera market that allayed fears that GoPro would dump its image processing SoCs for Qualcomm's (QCOM 1.76%). That was good news for Ambarella, since GoPro orders accounted for up to 30% of its revenue in the past, but it indicated that GoPro would produce the Hero 5 and Karma at lower margins -- which might cause wider bottom-line losses during the holiday season.

The problem is that Ambarella doesn't produce baseband modems, which are required for 4G connectivity, but Qualcomm's competing SoCs have integrated modems. This means that if GoPro wants to equip the Hero 5 or Karma with 4G connectivity, it must buy separate baseband modems (likely from Qualcomm or MediaTek), which would be pricier than using an all-in-one solution like Qualcomm's. If the Hero 5 and Karma don't offer 4G connectivity this holiday season, they could be overshadowed by devices that don't need to be tethered to smartphones.

3. Fool me once, shame on you...

If GoPro stock is dramatically undervalued and poised to rebound, we could expect to see a lot of insider buying. But over the past six months, insiders sold 2.8 million shares and haven't bought a single share. That's pretty discouraging since the stock trades at less than half its IPO price of $24.

Investors should also remember all the promises that management has broken so far. Shortly before its IPO in June 2014, GoPro hired Skype CEO Tony Bates as its president to scale up its "fast-growing media operations." Today, its media efforts haven't expanded far beyond offering content from its YouTube channel on a few other streaming platforms. CEO Nick Woodman talked about developing a cloud platform for the cameras last year, but nothing much is known about that project.

Former CFO Jack Lazar repeatedly gave inflated sales forecasts, fumbled markdowns and writedowns for the Session, and engineered a wasteful $300 million buyback program. GoPro then promised to launch the Karma in the "first half" of 2016, but abruptly delayed it to the holiday quarter earlier this year. To generate hype, it reannounced old partnerships as new ones. 

The key takeaway

After all those broken promises and missteps, it's hard for me to believe that GoPro's 20% bounce will be sustainable. I think investors should steer clear of GoPro unless it can actually give investors a real reason to buy the stock.