Why I Believe Dolby Will Outperform

One of the great maxims of traders and Wall Street pros is to follow the "smart money."

I'm not much for the thesis that institutional shoppers tend to make smarter investing decisions, but many of you who've read my ruminations on insider buying say you'd also like to know how the Big Money is betting. Your wish is my command.

Next up: Dolby Laboratories (NYSE: DLB  ) . Are institutions bullish or bearish when it comes to this leading developer of audio technology?

Foolish facts

Metric

Dolby Laboratories

CAPS stars (5 max) *****
Total ratings 3,854
Percent bulls 97.9%
Percent bears 2.1%
Bullish pitches 479 out of 494
Highest rated peers ScanSource, TESSCO Technologies, SYNNEX Corp.

Data current as of April 6.

Allow me to admit a bias before we begin; I was impressed by the bulk of what I saw at Dolby's demonstration suite at January's Consumer Electronics Show in Las Vegas.

Between its new 7.1 version of surround sound, an impressive networked gaming system, and an advanced sonic filtering system for laptops, Dolby showed why it's been the dominant name in audio technology for nearly four decades.

And yet investors want more than great technology. They want great growth, too. So when the company gave weaker-than-expected 2011 revenue guidance in February, the stock took an almost immediate 12% hit.

Fools who bought on the dip did so with the understanding that consumers demanding more immersive video experiences would also need more immersive audio -- Dolby's specialty. They've yet to be rewarded. The stock is down 20% over the past two months and 26% year-to-date.

Should bulls run for the hills as if they were the streets of Pamplona? Hardly. Dolby trades for just over 19 times normalized earnings, a level not seen since early 2009, during the height of a panic-ridden Great Recession.

Dolby also trades about in line with analysts' expectations for long-term profit growth, resulting in a perfectly reasonable 1.09 PEG ratio. Selling this high-quality company at panic prices isn't just unfair; it's stupid.

Institutional ownership history

Top Owners

2008*

2009*

2010*

Latest*

T. Rowe Price Group 8,657,240 9,443,490 9,114,250 9,114,250
Clearbridge Advisors, LLC 4,343,157 3,259,896 2,682,106 2,682,106
The Vanguard Group, Inc. 2,279,279 1,827,139 2,010,904 2,010,904
BlackRock 102,942 1,840,731 1,922,587 1,922,587
American Century Investment 632,351 298,034 1,905,779 1,905,779
TOP 25 TOTAL 28,847,238 30,122,275 35,184,859 35,184,859

Source: Capital IQ, a division of Standard & Poor's.
*Indicates the number of shares owned.

And I'm not the only one who thinks so. Big Money buyers have substantially increased their bets on Dolby since the 2008 market meltdown. BlackRock and American Century, in particular, have loaded up on shares.

Among mutual fund investors, Robert Bartolo's highly rated T. Rowe Price Growth Stock (PRGFX) fund boosted its position in Dolby by 13% in the December quarter. Colleague Brian Berghuis of Rowe's Mid-Cap Growth (RPMGX) fund also bought a big chunk of shares in the fourth quarter.

Competitor and peer checkup

Company

Institutional Ownership

Insider Ownership

Dolby Labs 46.89% 52.62%
DTS Inc. (Nasdaq: DTSI  ) 111.14% 1.08%
RealD (NYSE: RLD  ) 54.22% 39.45%
SRS Labs (Nasdaq: SRSL  ) 50.06% 20.66%

Source: Capital IQ. Data current as of April 6.

Judging by this table, Dolby also has the most engaged stewards. Insiders still own more than half of the business. Actually, "insiders" is a misnomer here. Founder Ray Dolby still owns more than half the business, and you can bet he wants to see it succeed.

Managers don't have nearly as much of the company but I don't find that troubling. CEO Kevin Yeaman and Dolby board members tend to sell according to 10b5-1 programmed trading plans. They've no input as to timing or valuation; they're merely diversifying.

That makes sense. Selling for any other reason doesn't, especially when Dolby transforms $0.27 of every dollar of revenue into cash for reinvesting into this outstanding business. I believe this is sustainable efficiency, and as such, I've rated the stock to outperform in my Motley Fool CAPS portfolio.

Do you agree? Disagree? Let me know how you would rate Dolby Laboratories using the comments box below. You can also recommend other stocks for me to evaluate by sending me an email or replying to me on Twitter.

The Motley Fool recently introduced a free My Watchlist feature that allows users to stay ahead of the curve and receive up to date news on companies like Dolby, or any of its competitors. To get up-to-date Dolby news and analysis, add the company to your watchlist today:

Dolby Laboratories is a Motley Fool Stock Advisor selection. BlackRock is a Motley Fool Inside Value pick. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Tim Beyers is a member of the Motley Fool Rule Breakers stock-picking team. He didn't own shares in any of the companies mentioned in this article at the time of publication. Check out Tim's portfolio holdings and Foolish writings, or connect with him on Twitter as @milehighfool. You can also get his insights delivered directly to your RSS reader. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool owns shares of T. Rowe Price and is also on Twitter as @TheMotleyFool. Its disclosure policy is smarter than the average bear.


Read/Post Comments (4) | Recommend This Article (10)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 07, 2011, at 10:49 AM, DaveGruska wrote:

    Dolby also owns Via Licensing, which manages licenses for NFC, which is starting to be included in mobile phones. That should eventually give them at least a bit of a boost. Via also manage licenses for the AAC codec, and 802.11 (wireless standard).

  • Report this Comment On April 14, 2011, at 12:34 PM, Jos2011 wrote:

    I lost my confidence in MF about what happened today. I became member of MF after reading the GEM 2011 story and bought DLB begin Jan at $67,80.

    How can a Gem be the looser of the year and why do you not explain why the stock is going down like it is doing.

    Do you think we are at the bottom or another 20% down?

  • Report this Comment On April 14, 2011, at 10:16 PM, TruffelPig wrote:

    I think the MF peeps are sometimes a bit overoptimistic about their picks. In the DLB analysis there was a big mistake - they didn't count enough on the drag by sluggish PC sales. Difficult to see in advance though.

    If I were you, I would always work with stops. If my stocks lose 8% I go out - observe - and go back in again once the stock turns up on HIGH VOLUME! Otherwise I do not touch the stock again. Lucky me, I dumped DLB 2 days ago (at no loss!) and got myself more TTMI instead because of better and more aggressive growth. I am pretty sure TTMI will this year outperform DLB.

  • Report this Comment On April 22, 2011, at 3:12 PM, Jos2011 wrote:

    Thanks for your comment. Is usefull.

    Last week DLB was still a core stock.

    In latest MF update no core stock anymore without any explanation. Just bragging about their superior results..

    Do not know what to think about MF with this experience and loosing 1000's of $.

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