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Better Internet of Things Buy: Sierra Wireless Inc. or InvenSense Inc?

By Leo Sun – Mar 25, 2016 at 7:23AM

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Which mobile and IoT supplier looks to have a better chance of bouncing back?

Sierra Wireless (SWIR) and InvenSense (INVN) both supply key components for mobile and wearable devices. Sierra is the world's top manufacturer of 2G, 3G, and 4G LTE embedded modules and gateways. Those components link mobile devices, wearables, connected appliances, and other objects to the Internet of Things (IoT). InvenSense manufactures motion sensors like accelerometers, gyroscopes, and compasses for smartphones, smartwatches, and other devices.

However, shares of Sierra and InvenSense have respectively plunged about 60% and 50% over the past 12 months due to concerns about slowing sales growth. Should investors consider those big declines to be buying opportunities? Let's discuss both stocks' strengths, weaknesses, and valuations to decide.

Sierra Wireless: Not living up to IoT expectations
Sierra Wireless is considered a "pure play" on the IoT and M2M (machine-to-machine) communications markets. Over the past few years, Sierra's growth was mostly driven by bullish forecasts regarding the IoT industry -- like Intel's claim that the number of connected devices could soar from 15 billion in 2015 to 200 billion in 2020.

Source: Sierra Wireless.

Unfortunately, Sierra's sales growth no longer reflects that optimistic forecast. Last quarter, sales fell 3% annually to $144.9 million, missing expectations by $4.5 million, due to softer demand from OEMs, an "uncertain" macro environment, and competition from Chinese M2M module makers. Those problems caused its OEM solutions revenue, which accounted for 84% of its sales, to slide 6%. Enterprise solutions revenue fell 15% to $16.5 million due to weak enterprise spending. Sierra's forecast for a 4%-10% annual sales decline in the first quarter and 4%-10% growth for 2016 both slightly missed analyst expectations.

On the bottom line, Sierra's non-GAAP net earnings fell 72.5% annually to $2.5 million, or $0.08 per share, missing expectations by two cents. Non-GAAP gross margin declined 240 basis points to 31.2%, while operating expenses rose 4.5%. Sierra's forecast for "slightly negative to slightly positive" EPS for the first quarter also missed the consensus estimate of $0.10, which would have already represented a 54.5% annual decline.

Those numbers look bleak, but Sierra tried to smooth things over with a new buyback plan good for repurchasing up to 10% of its shares over the next year. Sierra also expects sales to "gain strength over the course of the year" by starting commercial production on new customer programs and launching new "industry-leading products and solutions."

InvenSense: Too dependent on mobile devices
Many analysts once thought that InvenSense, which makes motion sensors for Apple's (AAPL 0.83%) iPhones and a wide variety of smartwatches, would also supply those sensors for the Apple Watch. But InvenSense ultimately lost that coveted spot to rival STMicroelectronics (STM -3.32%), which sent the stock into a steep dive which it still hasn't recovered from. Thanks to Apple's arrival, InvenSense's early 100% market share in smartwatches was roughly cut in half.

Source: InvenSense.

Last quarter, InvenSense's revenue rose 4% annually to $120 million, which beat expectations by $2.3 million. However, that still represents a major slowdown from 24% growth in the previous quarter and 74% growth a year earlier. Smartphone and tablet sensors accounted for 65% of sales, optical image stabilization sensors accounted for 14%, and all other segments -- including IoT sensors -- accounted for the remaining 21%. The company also admitted that Samsung and Apple respectively accounted for 47% and 13% of its sales. InvenSense expects its sales to fall 16%-22% for the current fourth quarter, while analysts expect revenue to rise 13% for the full year. A key concern is that sales of Apple's and Samsung's smartphones and tablets could peak this year, causing InvenSense's biggest growth engines to grind to a halt.

On the bottom line, InvenSense's non-GAAP net income fell 13.5% to $16.7 million, or $0.18 per share, which matched expectations. But for the fourth quarter, InvenSense only expects to post non-GAAP earnings between $0.00 to $0.02 per share, well below the consensus estimate of $0.12. InvenSense believes that expanding into the IoT market can diversify its business away from smartphones and tablets, but that business still generates a fraction of its sales.

Valuations and verdict
Analysts currently expect Sierra to grow its annual earnings 19% over the next five years, which gives it a 5-year PEG ratio of 1.1. InvenSense's earnings are expected to improve 18% annually over the same period, which gives it a PEG ratio of 0.9. Since a PEG ratio under 1 is considered "undervalued", InvenSense looks cheaper than Sierra based on its earnings growth potential. However, those ratios can rise quickly if analysts slash their forecasts.

Neither stock is a compelling buy right now, but InvenSense is a slightly better pick than Sierra because its sales growth remains positive, its earnings declines aren't as severe, and its PEG ratio has fallen below 1. However, investors should be wary of InvenSense's heavy exposure to Apple and Samsung, which could cause its sales to hit a brick wall.

Leo Sun has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Apple, InvenSense, and Sierra Wireless. The Motley Fool recommends Intel. 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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