Apple (NASDAQ:AAPL) suppliers have been in a spot of bother as slowing iPhone sales have limited their growth prospects. Additionally, rumors that Cupertino is planning to manufacture 20% fewer iPhones this year have been hanging heavy on the likes of Cirrus Logic, Broadcom, Skyworks Solutions, and others who rely on Apple for a great deal of their revenue.
But there's one Apple supplier that's making solid progress despite any iPhone sales woes. Lumentum Holdings (NASDAQ:LITE) has been in the spotlight since late last year after it emerged that it is the sole supplier of 3D sensing chips for the iPhone X. The chipmaker's vertical-cavity surface-emitting laser (VCSEL) arrays are used for facial recognition in the company's most expensive smartphone ever, and it is rumored that it could find its way lower into Apple's product lineup.
This is great news for Lumentum investors. Here's why.
A new business
Apple is a relatively new account for Lumentum. In fact, the chipmaker doesn't even feature on Apple's official supplier list. But the Apple business has had a massive impact on the company's financial performance.
Lumentum's revenue during the first three quarters of the current fiscal year -- covering July 2017 through March 2018 -- shot up nearly 22% as compared to the same period last fiscal year. The majority of the growth arrived during the quarters spanning the October to March period, coinciding with the period when Apple was busy ramping iPhone production.
By comparison, Lumentum's revenue was actually down 6% year over year in the first quarter of the current fiscal year, which ended in September 2017. This was before the Apple catalyst kicked in, when the chipmaker was struggling in its core business thanks to weak demand for its telecom products in China. Lumentum reported full-year results on Aug. 8 and said that its industrial & consumer segment was up 848% over the prior year thanks to the launch of 3D sensing into mobile devices. That segment, which includes 3D sensing and diode lasers sold for industrial applications, made up about a quarter of total revenues in the just-finished fourth quarter.
All set to take off
Taiwanese company WIN Semiconductor is a contract manufacturer of Lumentum's chips. WIN recently stated that it expects its second-half revenue this year to be lower than its prior estimate and anticipates its revenue to rise "less than 100% year over year," which means that it could almost double its revenue.
This sounds like great news for Lumentum investors, but how is this possible at a time when Apple is reportedly going to slash output? It's because Cupertino is reportedly going to push facial recognition into more smartphones this year.
According to Forbes, smartphone accessories manufacturer Ghostek has found out from its supply chain sources that the Face ID feature will find its way into an iPhone this year that'll carry a lower price than the iPhone X. What's more, another Forbes article recently said that Apple is reportedly planning to deploy Face ID across the iOS universe, including the iPad.
Lumentum's management somewhat corroborated this possibility back in May. CEO Alan Lowe said he expects sales of 3D sensing chips to ramp up in the second half of the calendar year, as Lumentum customers are likely to deploy its solution in "more and more models and further down into their product line."
Moreover, Lumentum has been busy expanding VCSEL capacity. The company had pulled in $200 million in 3D sensing revenue during last year's December-ended quarter, and it exited that quarter with higher production capacity than it had at the beginning.
So it won't be surprising if Lumentum's Apple contract brings it bigger gains, which could be one of the reasons why its earnings are expected to grow at over 18% annually over the next five years.
Words of caution
Investors won't be paying through their noses to take advantage of Lumentum's success, but they need to keep a couple of things in mind. First, weak telecom demand from China has weighed on Lumentum's core business, and a turnaround might not be happening soon, because the country's government is planning to shore up domestic production of optical components.
And Apple has been smart to diversify its VCSEL supply chain with Finisar, so the possibility of Lumentum having to split the Apple business could be a headwind. Still, given that Lumentum trades at just 12 times forward earnings, it seems like a good bet for anyone looking to benefit from the proliferation of facial recognition technology in Apple's ecosystem, provided they are willing to stomach the risks.