Corning (GLW +4.46%) shares look attractive. The stock trades at just 10 times earnings, representing a 59% discount to the S&P 500. Whenever a stock like Corning goes on sale, it could mean one of two things. Either the market is underestimating the earnings potential of Corning, or it's discounting the quality of the company's earnings for a good reason. There is no such thing as a risk-free investment, which drives home the importance of evaluating the risk factors for every company you buy, regardless of how much "intrinsic value" appears on the surface.
A brief recap
|
Segment |
Q3 2012 Revenue |
Change (YOY) |
Percentage of Total |
Percentage of Profit |
|---|---|---|---|---|
|
Display technologies |
$763 |
(6%) |
37% |
82% |
|
Telecommunications |
$523 |
(7%) |
26% |
6% |
|
Specialty materials |
$363 |
21% |
18% |
5% |
|
Environmental technologies |
$233 |
(6%) |
11% |
11% |
|
Life sciences |
$155 |
1% |
8% |
2% |
Sources: Corning quarterly earnings press release and a SEC 10-Q filing. Dollar figures in millions.
For the third quarter, Corning reported $2.04 billion in revenue, a decline of 2% year over year. In terms of EPS growth, there wasn't any, because EPS declined 29% to $0.35 a share since the year before. Judging by the table above, it's pretty clear how much Corning's profitability depends on the health of the LCD glass market. The hotly discussed topic of its Gorilla Glass growth prospects only contributed to a maximum of 6% to Corning's bottom line.
Concentrated revenue
Not only does Corning have concentrated profits, the majority of its revenue comes from no more than 10 customers. In 2011, Corning's largest ten customers accounted for 51% of total sales. In its most important display technologies segment, four customers accounted for 77% of 2011 total net sales. Although it's unlikely, as Corning is the largest worldwide producer of glass for LCDs, if any of these top LCD customers decide to shop elsewhere, it could put Corning in a difficult position to recoup lost revenue.
Pricing pressures
Corning faces pricing pressures in each one of its leading businesses as a result of more competition, disruptive technologies, and an increased supply of low-cost manufacturing capacity. Assuming volume stability, it's up to management to continuously reduce costs in lockstep with pricing pressures just to break even on profitability. Should Corning desire to increase profitability beyond sales growth, management must reduce costs faster than price declines. Over the long term, this cost-cutting practice will lose its sustainability, which could ultimately put Corning and its shareholders in a bad position. Now bear in mind that Corning must simultaneously invest into research and development in order to remain competitive against these lower-cost manufacturers. If the current stagnating environment continues longer term, it'll likely be only a matter of time before Corning starts feeling the burn.
Impairment risk
Aside from its business segments, Corning makes direct equity investments into various business ventures, which in the past have resulted in the company taking impairment charges. Its two largest equity investments are Dow Corning, which makes silicone and high-purity polycrystalline products for solar applications, and Samsung Corning Precision, which makes LCDs. In 2011, Corning recognized $1.5 billion in equity earnings, 98% of which came from these two ventures. Last quarter, Dow corning reported only $48 million in equity earnings, which declined 48% year-over-year, primarily driven by "severe weakness in the solar polysilicon market." During the same period, Corning recognized $186 million in equity earnings from the Samsung venture, a number that declined 18% from the year before.
New technologies
OLED TVs and 4K TVs may be the future of TV, which could potentially put a damper on Corning's market-leading LCD position. According to NPD, 4K LCD TVs are expected to exceed shipments of OLED TVs through 2015, primarily driven by a delay in commercialization of OLEDs due to their high cost structure, combined with increased promotion of 4K TVs. Worldwide, NPD expects global TV shipments to remain stable in 2013, after declining an estimated 6% in 2012. Corning needs to make sure it can secure its position in the next secular upgrade cycle of next-generation display technologies.
Big glass panels
Based on the currently profitability structure of Corning, the company needs to sell big glass panels, millions of times over. Above all else, concentrated profits remains an issue that subjects Corning investors to a high degree of risk, especially after you factor that Corning is not guaranteed to dominate the next-generation TV upgrade cycle. Given its price relative to the industry prospects, I do not believe it is worth putting your investment dollars toward Corning.
