A Light Bulb Goes On

02/20/2008 12:00 am EST

Focus:

Tobin Smith

Founder and Chief Research Analyst, NBT Equity Group

Tobin Smith, founder and chairman of ChangeWave Research, finds one company likely to profit from the rise of a new, energy friendly light bulb.

I know we've discussed the "death of the light bulb" ad nauseam in the past few years, but this transformation is really starting to kick in around the world.

No company will benefit from this transformation more than Cree (NASDAQ: CREE), one of our longtime favorites that, frankly, has tried our patience over the years.

In general, the value of Cree's light-emitting diodes (LEDs) is their ability to increase energy performance. The company's customer list ranges from innovative lighting fixtures makers to defense-related federal agencies. Its products include blue, green, and near-ultraviolet LED chips, as well as high-power packaged LEDs; power switching, radio frequency and microwave devices; and near-UV lasers.

After years of developing its LED technology and steadily lowering costs, the time has come when LED adoption will propel Cree to new heights. Recently, three high-profile events support this view:

* President Bush signed the energy bill into law, phasing out the incandescent bulb in the United States starting in 2012.

* More LED installations in public spaces like New York's George Washington Bridge and Holland Tunnel will help to increase the public's awareness of LED lighting.

* The Leatherman and Energizer are entering the LED flashlight market with Cree's XLamp product (providing incremental revenue for Cree in 2008).

In the most-recent quarter, Cree beat expectations and provided guidance for higher-than-expected EPS. Notably, Cree achieved a quarter-over-quarter improvement in gross margins for the first time in ten quarters, demonstrating that Cree is able to profitably transition from the chip business to the packaging business.

The company said revenue growth was driven by higher LED sales, with XLamp orders, and shipments growing sequentially by double-digits, as Cree successfully brought on-line additional XLamp capacity in China.

Additionally, we can expect gains from the solid-state illumination sector, which is in its early stages as a long-term growth market. This technology will be driven by new markets such as LCD TV backlighting and general illumination.

Cree said that for the December quarter, the lighting and video screen business were the two biggest markets, adding up to 50% of the total, with lighting having a slight edge. By the end of 2008, lighting will continue to increase as a larger percentage of the total, and then another application—notebook screens—will start to get a little bit more traction.

Cree still has lots of room to reach our $50 target, but it's currently well above our Buy Under price of $24. (It closed Tuesday above $32—Editor.) For anyone looking to establish a position, we're raising our Buy Under price to $28, but we don't want you to chase Cree. It's best to be patient to see if the stock traces back to its moving averages near $27 before making a move.

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