Is This Apple Supplier Finally Worth Buying?

This semiconductor company is finally becoming consistent, but is this a buy signal?

Jun 19, 2014 at 7:14PM

Apple (NASDAQ:AAPL) supplier OmniVision Technologies (NASDAQ:OVTI) sprang a surprise when it reported its fourth-quarter results, and shares soared 14%. Given the company's history of inconsistent performances, investors would be relieved to see OmniVision put up a couple of strong quarterly performances on the trot. But, will OmniVision be able to continue its outstanding run? Or will it disappoint once again like it has done in the past? With improving financial results and growth in emerging markets, OmniVision looks to be a buy.

Improvements worth noting
OmniVision's improvements in the previous quarter cannot be ignored. Although the company's revenue declined slightly from the year-ago quarter, its net income shot up 70%. Additionally, its gross margin improved an impressive 260 basis points from last year, and now stands at 20.1%.

Moreover, OmniVision issued a fantastic outlook for the second time in two quarters. It expects revenue in the range of $360 million-$400 million, miles ahead of the $305 million consensus. More importantly, if the company manages to achieve the mid-point of its guidance, it will report a year-over-year growth in revenue in the current quarter.

It expects adjusted earnings to range between $0.43 and $0.63 per share in the first quarter, putting the consensus estimate of $0.29 per share to shame. So, it is clearly evident that OmniVision has turned the corner. It was lacking consistency, but that seems to have changed now.

Emerging markets driving growth
The growing adoption of smartphones in Asian markets such as China and Taiwan is the key driver behind OmniVision's outperformance. The company has launched low-cost products aimed specifically at this market to profit from growing LTE adoption and smartphone growth.

For example, its PureCel image sensors have been optimized for budget smartphones and tablets. But, at the same time, they are equipped to deliver a cutting-edge performance and consume less power, allowing OmniVision to expand its customer base. Going forward, the company believes that its technology advantage will allow it to penetrate more markets and benefit from the 4G roll out in China.

The China Mobile catalyst
The LTE roll-out by China Mobile (NYSE:CHL), along with the transition to 3G smartphones, is proving to be a boon for OmniVision. According to CCS Insights, shipments of LTE-enabled smartphones are expected to hit 500 million units, driven by LTE deployments in China. This will be a massive jump from shipments of 250 million LTE smartphones last year.

In fact, China Mobile alone plans to ship 100 million LTE smartphones this year. The carrier is aggressively building out its network, planning to deploy 500,000 base stations by the end of the year and covering 350 cities with the LTE network. Moreover, China Mobile is expected to heavily subsidize smartphones this year to push LTE smartphone adoption. Its cost of subsidies is slated to rise a significant 29% in 2014 to $5.5 billion, and this is good news for OmniVision. 

In addition, China Mobile aims to sell 120 million non-4G handsets this year. This means that there is opportunity for OmniVision to tap growth in other low-cost devices.

Asia takes precedence over Apple
Taking a look at these growth prospects, it isn't surprising to see that Asia has become OmniVision's largest market. The company expects shipments to China and other emerging markets such as India, Africa, and Latin America to rise once again in the ongoing quarter. The shift in the company's focus to the emerging markets with its low-cost products has allowed it to alleviate the ill-effect of its decreasing share at Apple.

Three years ago, Sony (NYSE:SNE) started supplying its image sensors to Apple for the iPhone 4s. Since then, OmniVision has gradually lost its clout at Cupertino. In 2011, OmniVision was said to be supplying 90% of the 8-megapixel camera sensors to Apple, but it was relegated to the facetime camera spot in the iPhone 5. Now, earlier this year, MacRumors reported that Sony might supply both the front- and rear-facing camera sensors to Apple from next year. 

Sony recently purchased a new manufacturing plant to boost production of CMOS image sensors, and it might double its shipments to Apple from next year. As a result, OmniVision will feel the pinch if it loses its Apple account.

Diversification counts
However, OmniVision's focus on diversification with focus on automotive applications, game consoles, notebooks, and security cameras should help it tide over the loss of Apple. In addition, the company has hit gold in the Asian market, and it should be able to sustain its growth on the back of rapid growth in shipments of low-cost smartphones.

As such, at just 14 times last year's earnings and an expected annual earnings growth rate of 12% for the next five years, OmniVision looks like a solid pick.

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Harsh Chauhan has no position in any stocks mentioned. The Motley Fool recommends Apple and China Mobile. The Motley Fool owns shares of Apple. 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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