Will This Apple Supplier Rebound?

Cirrus Logic is a well-known Apple supplier that fell from grace as margins came under pressure. Can it finally rebound?

Jan 22, 2014 at 2:15PM

It's tough to ignore the swift rise and subsequent fall of shares of Cirrus Logic (NASDAQ:CRUS). The company is a broader mixed-signal/analog semiconductor name. But it is best-known for -- and derives approximately 80% of its revenues from -- its position as an Apple supplier. In particular, the company is the exclusive supplier of audio CODECs for Apple's (NASDAQ:AAPL) iOS devices and is the dominant supplier of Apple's Class-D audio amplifiers. Could this fallen angel be set to rebound?

Is this a value, or a value trap?
A cursory look at Cirrus' financials reveals a stock that looks pretty cheap. It trades for about 7.5 times the current fiscal year's earnings, and with $4.22 per share in net cash on the books, it trades for just 5.8 times the current year's earnings, ex-cash. On the surface, this looks exceptionally cheap, particularly in a market where multiples of just about everything seem to expand on a daily basis.

That being said, it's important to look at the sell-side forward top- and bottom-line estimates. Peeking at what the consensus estimates for the next fiscal year look like, the shares suddenly don't look mind-blowingly cheap. The consensus EPS number comes in at $1.79, although it is important to note that the range of estimates is quite wide, spanning from an ultra-bearish $1.30 per share to an uber-bullish $2.55 per share, which would represent a modest decline from the current year.

What's the forecast look like?
With consensus estimates so low for the next fiscal year, it's important to understand why those estimates sit where they do. Intuitively, these expectations don't make sense. Cirrus is a component supplier to Apple, and Apple still seems to be growing its top line nicely -- although not at the explosive rates seen in prior years. Shouldn't this translate into steady top- and bottom-line growth for Cirrus?

Consensus revenue estimates call for a slight year-over-year revenue increase of 2.5% for the company's fiscal year 2015. This seems pretty conservative, given that Apple is expected to grow its top line by more than 8% during its fiscal 2014, which overlaps a bit with Cirrus' 2015. That being said, it's also important to consider the position that Cirrus is in.

Apple's grip is tight
The vast majority of its revenues come from Apple, meaning that if Apple were to decide to buy its audio CODECs elsewhere, Cirrus' business would literally be a fifth of what it is today. Cirrus isn't going to let that happen, so Apple has plenty of bargaining power, suggesting that Cirrus' margins are likely to continue to come under pressure for quite some time -- until they're low enough to guarantee that no other vendor would want the business.

This isn't a terribly bad position to be in -- there are worse things than being dependent on the world's leading high-end smartphone vendor and one of the world's most loved brands. However, this does limit Cirrus' opportunity for margin expansion, and the stock is likely to always reflect the chance that Apple really does tell Cirrus to hit the bricks.

That said, Apple is likely to do very well
Despite Apple's tight grip keeping Cirrus' margins under pressure, it's likely that Apple will do rather well this quarter. Looking further ahead, Apple is likely to expand its iPhone product lineup with several larger models later this year. It stands to reason that these devices will use Cirrus' CODECs, and very likely its Class-D amplifiers. It also stands to reason that Apple will gain unit share in a growing underlying end market. This is all good stuff for Cirrus and should -- at least for this upcoming product cycle -- outweigh some of the longer-term concerns.

Foolish bottom line
Cirrus may be battered and bruised, but it's certainly not to be counted out. With Apple extending its momentum in the high end of the smartphone and tablet markets -- and with most of the gross-margin damage done -- things could get a lot better for Cirrus and its shareholders. This isn't the lowest-risk stock out there, but the company isn't in a bad place at all, especially if Apple knocks it out of the park this quarter. 

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Ashraf Eassa is short Cirrus Logic $19 Jan. 24 put options. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple and Cirrus Logic. Try any of our Foolish newsletter services free for 30 days. 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 has a disclosure policy.

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