Market is missing the growth potential for this tech leader electricity ground explained


Apple (AAPL) has lost over 30% of its value from October to Mid January due to concerns about the growth rate of iPhone sales. In turn, many of the company’s over 200 suppliers have seen their stocks crash in unison. Due to its immense size and the outsized media attention it receives, Apple tends to create a lot of noise that drags down all suppliers, regardless of the fundamentals of each business.

This major iPhone supplier, which currently earns 30% of its revenue from Apple, has many positive drivers that the market currently undervalues in the face of Apple doom and gloom. It has other high-growing business lines, new potential customers and uses for the products it sells to Apple, and it just completed the acquisition of one my top Long Ideas from last year that will further diversify its revenue away from Cupertino. Lumentum Holdings (LITE wd gaster x reader) is this week’s Long Idea.

Photonics manufacturer Lumentum, which was spun out of JDS Uniphase in 2015, is best known as one of the suppliers of vertical-cavity surface-emitting lasers (VCSELs) that powers the 3D sensing FaceID feature in newer model iPhones. Over the past year, VCSEL’s have become a major component of Lumentum’s business, and Apple accounted for 30% of its revenue in 2018.

However, framing Lumentum as solely an Apple supplier paints a misleading picture of the company’s underlying economics. In part, this characterization is due to misleading GAAP earnings, which show the company losing money electricity 101 video every year until 2018. Figure 1 shows that economic earnings, the true cash flows of the business, actually turned positive in 2017, before Apple became a major component of the company’s revenue.

As a result, LITE reported a GAAP loss of $103 million in 2017 even though it earned positive economic earnings of $14 million. In 2018, GAAP earnings rose sharply not because of doing business with Apple but due to an $80 million (6% of revenue) gain from tax reform. Combined, these accounting distortions suggested that Lumentum was a chronically unprofitable company transformed solely by its position as an Apple supplier.

Lumentum has significant opportunities to grow its VCSEL business outside of Apple. For starters, the company can gain traction with other smartphone manufacturers that want to emulate the iPhone’s features. VCSEL revenue from Android customers grew by over 100% sequentially in the most recent quarter, and while it remains a minor component of revenue now, Android phones could become a major growth driver in the near future.

More importantly, phone manufacturers are increasingly contemplating new uses for 3D sensing. So far, the feature has been confined to the front-facing camera and used for facial recognition. However, it could very soon be applied to the “world-facing” camera on phones and used static electricity vocabulary words for augmented reality applications. VCSELs could also provide 3D sensing for a variety of other consumer appliances.

Longer-term, VCSELs have potential applications in self-driving cars, military systems, and industrial manufacturing. The VCSEL market is forecasted to grow at ~17% compounded annually over the next five years. As one of the leaders in the industry, Lumentum should benefit from this growth even if it faces headwinds over the next year from Apple.

Lumentum should become even less reliant on Apple for revenue in 2019 due to the recently completed acquisition of Oclaro. I like this acquisition (which is rare) from a pure fundamentals perspective: Oclaro was one of my top picks in 2018, and the $8.26/share that Lumentum paid in the deal represents a 25% discount to the $11/share fair value that I estimated in my original article.

In addition, this acquisition diversifies electricity kwh cost calculator Lumentum further away from Apple. Oclaro’s leading position in 100 gigabit per second optical transceivers will – in addition to providing vertical integration opportunities with Lumentum’s portfolio of fiber optic products – provide an extra cushion in case the VCSEL market stagnates. Oclaro earned TTM revenue of $519 million, 38% of Lumentum’s revenue, so it brings in significant new revenue streams.

At its current valuation of ~$45/share, LITE has a price to economic book value (PEBV) of 1.1. This ratio implies that the market expects the company’s net operating profit after tax ( NO PAT) to grow by no more than 10% for the remainder of its corporate life. Given the growth opportunities of the company’s technology, along with its potential synergies with Oclaro, such a low expectation seems overly pessimistic.

Modeling the company’s future cash flows is difficult given that I don’t yet have filings for the combined company after the Oclaro acquisition. If I estimate that NOPAT margins fall from 14% TTM to 11% (LITE’s margins for 2018), and the company grows revenue at 8.5% compounded annually in years 2-10 (half the rate of projected VCSEL industry growth), the stock is worth $65/share today gas in babies at night, a 42% upside from the current stock price. See the math behind this dynamic DCF scenario.

In general, markets aren’t good at identifying quality capital allocation that creates value and shareholder friendly corporate governance. Instead, due to the proliferation of noise traders, markets are great at amplifying volatility, and therefore risk, in popular momentum stocks, while high-quality unconflicted comprehensive fundamental research is overlooked. Here’s a quick summary for what noise traders miss when analyzing LITE:

Lumentum does not currently pay a dividend on its common stock, and it has never bought back shares since it was spun-off in 2015. With the Oclaro acquisition, which cost the company $960 million in cash (compared to $666 million in excess cash on the balance sheet), investors should not expect the company to return capital to shareholders in the near future.

LITE’s executive compensation plan, which includes base salary, annual cash incentives, and long-term equity youtube gas pedal awards, focuses on operating income and revenue. The simplicity of this plan is preferable to companies that include easily manipulated non-GAAP metrics, but it would be good for shareholders if there were some emphasis on capital allocation as well. In particularly, I would prefer to see executive compensation tied to ROIC, since there is a strong correlation between improving ROIC and increasing shareholder value.

Short interest trends are more insightful. There are currently 4.8 million shares sold short, which equates to 8% of shares outstanding and 3 days to cover. Short interest has fallen 54% since August, down from 10.5 million shares sold short and 5 days to cover. Most of the shorts seem to have gas variables pogil worksheet answer key covered after the stock’s sharp drop over the last few months of 2018.

Balance Sheet: I made $819 million of adjustments to calculate invested capital with a net decrease of $743 million. Aside from the excess cash referenced above, the most notable adjustment was $126 million in deferred tax assets. This adjustment was equivalent to 9% of reported net assets. You can see all the adjustments made to LITE’s balance sheet here.