Has This Apple Inc Supplier Just Shot Itself in the Foot?

Overpaying for a company with declining revenue isn't a good idea, especially when your own business is on the decline.

May 19, 2014 at 11:15AM

At first sight, Cirrus Logic (NASDAQ:CRUS) looks like a can't miss investment. It trades at just 13.6 times last year's earnings, and derives around 80%-90% of its revenue from Apple (NASDAQ:AAPL). In addition, the company impressed the Street with its fourth-quarter results last month, trumping the analyst estimates by $0.09 per share. Also, Cirrus' outlook was strong. 

Recent news focuses on Cirrus acquiring U.K.-based microchip maker Wolfson Microelectronics for a sizable $489 million to bolster its audio division. This decision must have gone down well with investors as Cirrus was being blamed for being too reliant on Apple and this acquisition would probably help it add Samsung to its client list. In fact, Cirrus was so eager (think desperate) to diversify its revenue base that it's paying a premium of 75% for Wolfson.

A very risky bet
Now, Cirrus will need to borrow money to close the deal since it has just under $300 million in cash. The news is that Cirrus will borrow $225 million, and then use its cash to fund this new purchase. The downside is it will muddy up its balance sheet. Till now, Cirrus has been a debt-free and cash-rich company, but this days are over.

Moreover, there's no guarantee that the Wolfson purchase would bring much to Cirrus in the long run. Of course, the acquisition will be accretive to earnings immediately after the deal closes, and Cirrus will finally have access to Samsung. However, it looks like Cirrus paid too much for a company that is in the decline.

According to the Financial Times, Wolfson had a market capitalization of 630 million British Pounds back in 2006 when it used to supply audio components for Apple's iPod. Before the acquisition was announced, Wolfson's market cap was just 160 million British Pounds. Further, Wolfson's revenue in its last-reported quarter, that ended on March 30, was $29 million, a sharp decline from the $48 million in revenue that it reported last year. 

Of course, Wolfson is a supplier to Samsung and its chips are present in the Galaxy S5, but why would revenue fall year over year? Well, Wolfson management cites the "faster-than-anticipated transition from 3G to 4G (LTE) smartphones" as the reason behind its downfall, and expects its relationship with vendors in China to lead to improvements in the future. So, effectively, it seems that the relationship with Samsung didn't work for Wolfson in the previous quarter.

There might be some respite as Wolfson gains traction in the Chinese market, but Cirrus paid way too much for a company that just saw a big drop in revenue, is trying to make a comeback, and appears to be past its prime.

Even Cirrus is past its prime
While the estimate-beating results and strong outlook look good, digging deeper into the company's financials will reveal some concerns. Its revenue was down almost 28% year over year, while earnings were halved from $26.4 million to $12.6 million. 

Fool contributor Adam Levy says that Cirrus improved its margins 8.6 percentage points from the year-ago period, probably driven by an improvement in Apple's product mix. Apple's iPhone sales were better than expected last quarter, while lower than expected iPad sales didn't affect Cirrus since it had lost an amplifier spot in the tablet to Maxim Integrated Products.

However, it should be noted that Apple's revenue in the last quarter was up year over year, while Cirrus' crashed comprehensively. Also, Apple's iPhone sales came in at 43.7 million units in the second quarter, up from 37.4 million last year. Thus, it doesn't make much sense to compare the financial performance of the two companies. Apple might be paying less to Cirrus for its solutions than it has in the past, and an increase in iPhone shipments won't necessarily mean an increase in revenue for Cirrus.

Apple's product refresh, which might include bigger iPhones, could provide some relief for Cirrus. However, an increase in iPhone sales wasn't enough to boost Cirrus' financial performance last time: So why should it be counted on this time?

Stay away
Ultimately, the Wolfson acquisition might not bring much to Cirrus Logic. According to Fool analyst Evan Niu, Apple's contribution to Cirrus' top line will still be a huge 70% after the acquisition. Further, Cirrus isn't making any progress in its operation. Its revenue and earnings are taking a solid beating, despite an increase in iPhone sales. As such, it would be wise to stay away from this stock until it shows the ability to grow its core business.

Here's the biggest thing to come out of Silicon Valley in years; buying this Apple supplier is the best way to play it
If you thought the iPod, the iPhone, and the iPad were amazing, just wait until you see this. One hundred of Apple's top engineers are busy building one in a secret lab. And an ABI Research report predicts 485 million of them could be sold over the next decade. But you can invest in it right now... for just a fraction of the price of AAPL stock. Click here to get the full story in this eye-opening new report.

Harsh Chauhan has no position in any stocks mentioned. 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.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.


Compare Brokers