Sell-off Shines a Light on CREE

08/16/2013 8:00 am EST


As is often the case with stocks that trade at high valuation multiples, this stock was fragile going into its earnings report, and the lower than consensus forecast has led to a significant sell-off. In my opinion, this creates a buying opportunity for long-term investors, says Paul McWilliams, editor of Next Inning.

Cree (CREE) reported fiscal Q4 revenue of $375M and non-GAAP earnings of $0.38 per fully diluted share. The consensus estimates were $378.4M and $0.38 respectively.

For fiscal Q1 (2014), the company forecasted revenue in the range of $380M to $400M and non-GAAP earnings in the range of $0.36 to $0.41. The consensus estimates ahead of the forecast were $398.4M and $0.43.

While the midpoint of its revenue guidance is somewhat below my expectation, and I was assuming the firm's 19% corporate tax rate would hold in fiscal 2014, everything else in the story appears to be intact.

Cree's non-GAAP operating profit margin increased to 14.0%, up from 10.2% last year, and is expected to increase to 15% in calendar Q3.

Its operational leverage increased in calendar Q2 to 1.51 from 1.39 last year, and is expected to be 1.58 in calendar Q3 (based on guidance midpoints).

Operational leverage measures how many gross profit dollars are generated from every operating expense dollar invested. Given the data CREE shared during the call, this trend should continue during fiscal 2014.

Trailing 12-month free cash flow (FCF) was $1.58 per fully diluted share, versus Cree's reported non-GAAP earnings of $1.32, and net cash per fully diluted share increased by $2.06 year-over-year.

Net Current Assets per fully diluted share increased by $2.09 year-over-year. The primary difference here is, the company modestly increased its working capital during the fiscal year to support higher sales.

If we sum this data, it leads me to believe all of the fundamentals are lining up well, that the company is developing leverage in its business model, and that the firm's earnings, as reported, understate the performance of the business.

Bottom Line: I continue to believe Cree is focusing on the right things and executing well. I think all of the new products it has introduced this year are destined to be big winners, and, in most cases, increase its branding power—an effort the company now states very clearly is a strategic objective.

While revenue growth for calendar Q3 will be a bit lower than I was expecting, I think Cree will achieve, or top, the full year fiscal 2014 revenue consensus of $1.68M, and with that, hit my $2.00 non-GAAP full year revenue target.

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