Investors' enthusiasm for Ambarella (AMBA +1.51%) came crashing down after the video-processing-chip specialist's fiscal first-quarter performance didn't do much to dispel fears that it was finding it difficult to grow despite operating in verticals that promise a lot of opportunities.
The company talked about how it is gaining traction in fast-growing markets such as automotive and security, but it didn't do enough to lift its flagging sales. At the same time, it seems to have missed the bus in other lucrative markets, like drones and action cameras. This makes a turnaround at the once high-flying GoPro supplier extremely difficult, as it is devoid of any concrete catalysts at this point.
Image source: Getty Images.
The non-GoPro business isn't clicking
Ambarella's revenue fell 11% year over year during the first quarter, while adjusted earnings fell from $0.44 per share a year ago to $0.13 a share. This alarming drop was triggered by the weakness in the company's non-GoPro business, where revenue declined nearly 13% from the year-ago period because of weakness in drones and virtual reality (VR) cameras.
This is a big red flag for Ambarella investors, as the company has been winding down its reliance on GoPro after the action-camera maker decided to go in-house for its chips and ran into troubles of its own. As such, the non-GoPro business needs to do well in order to offset the declining business from GoPro.
But that looks unlikely. Ambarella expects its non-GoPro revenue to decline around 8.6% in the current quarter while the weakness in VR cameras, drones, and the broader sports-camera market will continue. Ambarella, however, believes that the automotive and IP security camera business will continue gaining traction. But that's not going to be enough to offset the decline in other markets.
In fact, Ambarella forecasts that its non-GoPro revenue will remain flat at $258 million at the midpoint of its guidance in fiscal 2019. However, this will be a difficult target to meet as non-GoPro business will already be down significantly in the first half of the year, given its forecast for the current quarter.
As such, Ambarella needs some big catalysts if it is to salvage the non-GoPro business in the second half of the year. The problem, however, is that there isn't any clarity about the adoption of the company's newly launched products that are supposed to help it stage a turnaround.
For instance, Ambarella's new automotive camera chips are still in the evaluation phase. Management, however, is upbeat about the fact that its embedded vehicle autonomy (EVA) platform that was demonstrated on public roads earlier this year is being well received by automotive companies and component suppliers.
But this isn't something that hasn't already been done. Industry titans such as NVIDIA and Intel have been demonstrating their self-driving platforms for quite some time, building up a solid ecosystem of partners and clients. Intel, for instance, already supplies 90% of the world's automakers with its advanced driver assistance system (ADAS). So there's a big question mark over whether those automakers will be willing to replace Intel's chips with Ambarella's.
And if Ambarella's new chips don't move from the evaluation phase to the adoption phase, the company might be forced to slash its guidance later this fiscal year.
Loss of pricing power is hurting margins
The market for the automotive and security chips that Ambarella sells is commoditized. Not surprisingly, its pricing power has declined over the years as competing chips from Chinese manufacturers have hit the market at lower prices, taking a toll on its profitability. In fact, GoPro was the only saving grace for Ambarella as the company was able to extract a premium from the action-camera maker for its custom chips, boosting its margins in the process.
|
Fiscal year |
2012 |
2013 |
2014 |
2015 |
2016 |
2017 |
2018 |
|---|---|---|---|---|---|---|---|
|
GoPro revenue as % of total revenue |
14% |
23% |
34% |
39% |
30% |
24% |
13% |
|
Non-GoPro revenue as % of total revenue |
86% |
77% |
66% |
62% |
70% |
76% |
87% |
|
EBIT margin (%) |
15% |
21% |
23% |
31% |
37% |
35% |
28% |
Data source: Ambarella 2018 analyst day, EBIT = earnings before interest and taxes.
GoPro's decision to look for a cheaper chipset for its action cameras has cost Ambarella dearly. The chipmaker expects GoPro revenue to be almost negligible in the current fiscal year, so it won't be surprising if its margins nosedive once again.
What's more, it is evident from the table above that the non-GoPro markets have failed to drive the company's margin growth over the years. This is a trend that could.
Stay on the sidelines
The future of Ambarella's non-GoPro business is cloudy. The company is trying to bite into a big opportunity with its new chips, but whether they will be adopted by clients into their final products is not known at this stage. Additionally, it remains to be seen whether its new offerings will increase margins.
Given all this uncertainty regarding Ambarella's turnaround, I think it's prudent for investors to watch from the sidelines and wait for the catalysts to materialize before buying.
