It's Time to Let Dolby Laboratories, Inc. Out of the Doghouse

When Dolby Laboratories (NYSE: DLB  ) crushed quarterly expectations late last week, Mr. Market responded with the rough equivalent of "Meh."

To be sure, the 49-year-old audiophile turned in fiscal first-quarter revenue of $231.2 million, easily exceeding analysts' estimates for sales of just $212.08 million. That translated to net income of $60.6 million, or $0.59 per share, which also thumped analysts who were calling for earnings of just $0.34 per share. 

And while I fully expected Dolby to report a beat, these results even surpassed the solid guidance provided by Dolby itself three months ago, when it predicted sales of $205 millionto $215 million and non-GAAP earnings of $0.42 to $0.52 per share.

But after some early volatility Friday, shares of Dolby Labs have largely traded flat since then. So what gives?

Here's what happened
In short, Dolby's good news was offset by mixed fiscal second-quarter projections, which call for revenue of $240 million to $250 million and non-GAAP diluted earnings between $0.59 and $0.66 per share. By contrast, analysts were hoping for fiscal Q2 earnings of $0.57 per share on sales of $251.04 million.

To which I respond: Seriously, Mr. Market?

After all, putting aside the $6 million projected top-line miss (taking the midpoint of revenue guidance), Dolby is saying it'll be even more profitable than analysts had anticipated in Q2, thanks to its efforts to keep expenses in check while adjusted gross margin remains steady at 91% to 92%.

But if that weren't enough, keep in mind Dolby also just raised both ends of its full-year fiscal 2014 revenue guidance by $10 million, resulting in a new range of $910 million to $940 million. By comparison, analysts were looking for only $909.5 million, which indicates Wall Street is simply having trouble with the timing of Dolby's sales.

Why Dolby's not quite out of the doghouse yet ... but should be
If Dolby's guidance rings true, it means the company is finally set to end its years-long trend of revenue declines spurred by waning PC and consumer electronics sales, which still generated around 21% and 19% of total licensing last quarter.

So what's driving Dolby's long-awaited return to growth? 

Broadcast revenue, for one, steadily grew around 8% over the past year, and represented around 36% of total licensing revenue last quarter as emerging economies gradually adopt digital television standards.

What's more, mobile device revenue grew 40% over the past year and represented around 15% of licensing -- a result owed to Dolby's notable wins in the smartphone and tablet space.

With this in mind, it's worth noting there was a 4% decline in mobile from last quarter, when it accounted for 17% of licensing revenue. However, Dolby CEO Lewis Chew was quick to point out the sequential decrease was "primarily due to the timing of revenues related to licenses in one of our patent pools."

That's fair enough, but what about Dolby's "other" segment, which fell around 8% year over year and represented around 9% of licensing last quarter? According to Chew, though automotive revenue remained relatively stable, gaming fell over last year because Dolby's revenue recognition requirements prevent it from recognizing the PlayStation 4 or Xbox One unit sales until next quarter.

Foolish takeaway
In the end, it looks like there's just enough uncertainty surrounding Dolby's prospects to throw cold water on its otherwise positive results. But that's not enough to scare me away from this solidly profitable business. As a result, I'm convinced Dolby investors still have more than enough great news to hang their hats on. Until the company presents some real concerns, that's why I'm more than happy to keep my "Outperform" CAPScall on Dolby open.

Consider our CIO's top stock for 2014 in this free report
I think Dolby is a great stock which should reward patient investors over the long-term. But that doesn't mean it's the only great stock out there.

In fact, The Motley Fool's chief investment officer recently selected his No. 1 stock for 2014, and it's one of those stocks that could make you rich. You can find out which stock it is in the special free report "The Motley Fool's Top Stock for 2014." Just click here to access the report and find out the name of this under-the-radar company.


Read/Post Comments (1) | Recommend This Article (6)

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 January 29, 2014, at 10:24 AM, rebozo2 wrote:

    After holding Dolby shares for some time, I sold out a few weeks back. Here is a company that is making money but on balance, the share price seems stuck in limbo and the one-time dividend was nice to get, but was a single oasis rather than a reliable pipeline. It reminds me of Corning; a good company with good product but stock performance continues to be unimpressive.

Add your comment.

DocumentId: 2811846, ~/Articles/ArticleHandler.aspx, 4/21/2014 9:03:18 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement