When Ambarella (AMBA -5.49%) reported results on Dec. 1, the initial market reaction in the after-hours trading session was positive. But once the conference call started, a different picture emerged as the CFO, George Laplante, talked of challenges related to original equipment manufacturer, or OEM, channel inventory. Since the report, Ambarella shares have shed nearly 15% as of this writing.

The inventory issue stems from the supply of Ambarella's semiconductor chips that are held by its customers. The customers use this inventory to build their own products. If holiday sales fall short, for example, they will push out demand for Ambarella products until their inventory has been brought back down to normalized levels.

Take a closer look, however, and you will realize that the implications of a short-term inventory problem are far outweighed by the long-term implications of the quantity and quality of the design wins management announced during the earnings call.

Image source: DJI Phantom Drone via Pixabay

Ambarella customers drive sales to end users

Ambarella does not sell its products directly to consumers. Instead, the company sells to OEMs who use its system on a chip semiconductors inside devices that feature cameras such as dashboard cams, action cameras, and drones.

OEMs provide forecasts to their suppliers that help these companies plan their production levels. In the case of Ambarella, a fabless semiconductor manufacturer, their production planning department in turn provides a forecast to their foundry supplier to schedule the appropriate amount of wafer runs, testing, and packaging capacity.

This forecast process must consider the lead time for all the suppliers down the chain from the OEM to react to the change in production needs. Like a big moving train, when the engine slows down, it takes a while for the caboose to get the message. With Ambarella earnings announced on Dec. 1, it is well within reason to expect that the company had insight into OEM forecasts for Black Friday sales as well as projections for the holiday season. Mr. Market did not like what he saw, and as a result, the stock sold off.

The good news

A semiconductor company such as Ambarella, however, relies on its ability to leverage proprietary or patented technology to power its customers' products and in doing so, secure a position as the single source supplier for specific sockets inside the OEM's equipment. This leverage turns into gold as measured by enhanced profit margins and relationships with the customer that allow for future design wins.

In that light, here is a look at the good news from the latest quarterly results:

  • DJI's new Mavic Pro compact drone incorporates Ambarella's 4K ultra-high definition SOC. The Inspire 2 and Phantom 4 Pro also utilize Ambarella's new 4K ultra-HD 60 frames per second chip.
  • Nikon, a new customer, introduced the Key Mission 170 underwater camera, for the first time designed in an Ambarella A9AC SOC to enable 4K ultra-HD video.
  • Chinese action camera maker EKEN started shipping a sub $150 camera based on Ambarella's A12 SOC featuring Wi-Fi capability based on its patented compression technology.
  • For its spectacles that can capture 10 seconds of video, Snap chose Ambarella's low power HD SOC.
  • Bosch's 360 indoor security camera, as well as its new outdoor security camera, incorporate Ambarella's HD chips. They are Bosch's first offerings in the Internet of Things home security market allowing for 360-degree coverage.
  • Nest, a subsidiary of Alphabet, started shipping its Nest Cam outdoor streaming camera featuring night vision which showcases Ambarella's SOC low ambient light capability.
  • SimpliSafe introduced a DIY indoor home security system featuring Ambarella's H2LM SOC. The system records video for up to thirty days.
  • And GoPro -- Ambarella's largest customer introduced the Hero5 Black and the Hero5 Session. These are 4K ultra-HD wearable cameras using Ambarella's A9 SOC.

These design wins are based on Ambarella's SOC technology that features low power consumption, the ability to capture high definition video under low ambient light conditions, and highly efficient compression technology. These patented technologies are the crown jewels for Ambarella and allow it to command single source control of these sockets and maintain a 66% non-GAAP gross margin. 

Today's design win is the key driver of tomorrow's revenue

Being a single source supplier allows the company to maintain a very close relationship with OEMs, which puts them on the ground floor for working on a customer's next product design. As a result, Ambarella becomes an integral part of the customer's design process.

The more design sockets the company wins, the more revenue it generates going forward. This past quarter marked the company's first $100 million quarter which reflects the success it has had winning new designs and customers.

Think twice about the bearish sentiment reflected by the recent weakness in the stock and focus on the long-term opportunities presented by Ambarella's innovative technology and deep customer relationships. As Foolish investors, we can look past the near-term and focus on what appears to be a bright future for this company.