Cirrus Logic (CRUS) is an integrated circuits company operating in the industry of specialized semiconductors. The company was founded in 1984 and is based in Austin, Texas. It develops high precision analog and mixed signal integrated circuits. The semiconductor industry essentially produces three types of ICs (integrated circuits); Analog, Digital and Mixed Signal ICs. Analog semiconductors process a continuous signal that can represent functions such as temperature, speed and sound etc. Digital semiconductors process discrete signals. Mixed signal semiconductors combine analog and digital circuits into a single product and this is where Cirrus Logic comes in. Its products are featured in consumer and professional audio, automotive, entertainment and targeted industrial applications including energy control, energy measurement and LEDs (Light Emitting Diode). Its audio related products include amplifiers, analog to digital converters and vice versa, codecs, system on chip (SoC) and volume controls etc. These products are used in smart phones, tablets, camcorders and media players. Energy related products of the company include energy measurement, energy control, LEDs and seismic products. The company reports its revenue performance in two segments; audio and energy. Cirrus generated around 93% of its revenue from the audio segment in the fiscal year 2013. The remaining 7% of revenue was generated through the energy segment. Over the years, the company's revenue base has shifted towards audio. (It generated 71% of its revenue from the audio segment in the fiscal year 2011).
Shares of Cirrus Logic are listed on the NYSE. During the last year or so, the valuations of the company depreciated by around 25%; hitting a low of $17 in May 2013. The valuations seem to be recovering at present and have shown an increasing trend in the last six months, appreciating by around 21%.
Revenue in billions
The valuations decreased at the start of 2013 because Cirrus issued revenue guidance below analyst estimates. After the fiscal 2013, the company issued revenue guidance in accordance with analyst's estimates and the valuations stared to rise in the second half of year. Despite the expected revenue shrinkage in 2014, the valuations are not affected much because the EPS is still expected to grow. As the company announced a $200 million share buyback in 2012, the expected decrease in the number of shares may be the reason why the EPS is not affected despite a decrease in revenues. This means that the improvement in EPS is merely due to a buyback exercise while the vitals of the company moved in an opposite discretion. The vitals, including revenue, are crucial for the company in the long run and will define its actual valuations in the years to come. The investor should not rely on EPS that reflects a reduction in shares.
Thesis and Catalyst
The TAM (Total Available Market) for audio products is expected to increase from 1.3Bu to 2.88Bu by 2016 - a 118% growth. This translates to a $6.2 billion TAM by 2016, showing a 174% growth in dollar terms. The company is heavily reliant on the sales of its products featured in portable audio products, which indicates that Cirrus has considerable growth opportunities in this market in the foreseeable future.
Sources: iSuppli, IMS Research, Goldman Sachs, Display Search, Garnter, Instat and Company estimates
In the energy segment, the TAM for replacement LED Light bulbs is expected to grow at a CAGR of 48% until 2016; presenting Cirrus Logic with the opportunity to capitalize on this growth.
Strengths of Cirrus
Cirrus Logic is relatively small in terms of market capitalization but its growth prospects are bright, as evident from the growing markets it operates in, and it was listed in the Fortune 100 fastest growing companies of 2012. Forbes ranks the company among the 20 best small tech companies of the US. The company's strengths include a strong IP (Intellectual Property) portfolio; it has around 1000 patents covering over 700 products. Its comprehensive product portfolio, ranging from ADC to AMPS, is also a competitive advantage. Cirrus has around 2500 customers, including tier one customers like Apple (AAPL), LG, Sony (SNE), Ford (F) and Motorola. These facts indicate that Cirrus is a competitive company which has the ability to materialize on the growth prospects of the industry.
Low Power And High Quality
The differentiating competitive factors in the specialized semiconductors industry include smaller and low power ICs. The smaller the IC, the more suitable it is for smaller portable devices like tabs and smart phones. Moreover, the low power of the ICs will reduce the energy consumption requirement of these devices. Hence, the tablet and smart phone manufacturer will prefer the ICs with low power consumption. Cirrus Logic recently introduced the ultra-low power CS53L30 analog-to-digital (A/D) converter. With an ultra-low power consumption of less than 2.5 mW per channel, the CS53L30's high-performance and four-channel microphone A/D converters enhance voice processing features such as noise suppression, acoustic echo cancellation and multi-channel beamforming and offer improved performance in voice capture processing for voice control and recognition. The company claims that the CS53L30 is currently shipping to a leading manufacturer of high-quality smart phones. This differentiated product, along with the other offerings of the company, is expected to drive the future profitability of the company.
Cirrus acquired Acoustic Technologies, an embedded firmware voice processing technology company, in October 2013. This acquisition will help Cirrus in the better management of noise reduction and echo cancellation in its products. "We expect the combination of sophisticated voice-processing algorithms and Cirrus Logic's market leading audio hardware to provide a very compelling value proposition for our customers." said Jason Rhode, President and CEO, Cirrus Logic.
These developments have been mentioned to indicate that the company is focusing on developing low power products with enhanced performance and quality. This points to the strong future position of the company, given that it keeps on adapting to the changing needs of this industry.
Weakness and Threats
The prominent weakness of the company is its substantial revenue generation from a single customer, i.e. Apple Inc. As long as the company keeps winning contracts, it may not appear to be a problem; but if it loses this customer, the story will be quite different for the years to come. For the fiscal year 2013, 2012 and 2011, Apple accounted for around 82%, 62% and 47% of Cirrus Logic's total revenue respectively. Year on year the company is relying even more on Apple. It would be beneficial for Cirrus to market its products with the aim of diversifying its customer base. Otherwise, design loss from Apple will materially affect the future position and the valuations of the company. The fact that iPad Air no longer uses the audio amplifier from Cirrus indicates that Apple can shift to other supplier if it wants and this is a negative development for Cirrus.
The company also faces a significant threat from competitors like Texas Instruments (TXN) and STMicroelectronics (STM). Both these companies are larger than Cirrus, with market caps of around $47B and $7B respectively, and also have solid financial positions. These companies also offer amps and audio products and given their size, they are a threat to the future growth of Cirrus Logic.
Cash and Liquidity Position
The company's cash balance stands at approx. $268m and the current ratio is around 6x. The average current ratio for the industry is 3x which indicates that Cirrus currently faces no liquidity problems whatsoever. The company generates around $150 million in operating cash flows annually. No debt is incorporated in its capital structure; hence, no pressure from having to pay finance costs. As all the cash flow generated is reinvested, the company does not have problems in coping with the growth factor of the industry at present.
(Amounts in $ million)
The graph shows the historic cash generation of the company and the trend is increasing. This is an indication that the company will keep on generating cash, provided that it continues to capture design wins in the future.
The valuation of the company is performed using the P/E valuation model. The industry average P/E is approximately 19x. The growth rate of industry is around 16% for the next five years while the growth factor of Cirrus is estimated to be negative. Hence, the industry's P/E cannot be used for valuation purposes. We believe that the current P/E of 9x truly reflects the price that investors will be willing to pay for per dollar earnings of this stock. Hence, the multiplier of 9 is used. The price target is derived in the table to follow.
Price targets using 9x multiplier
PT in USD
The average price target of $16.1 indicates that the stock is overpriced and rightly so, because the future growth estimate of the company is not at par with the growth prospects of the industry - mainly because of the presence of larger competitors.
The portable audio market is expected to grow in the coming future along with the replacement LED market. This provides Cirrus Logic with growth opportunities in both of the major segments it operates in. The company has generated positive cash flows historically, which indicates that it has the ability to do so in the future if it gets new design wins. However, the presence of larger competitors and Cirrus Logic's reliance on a single customer are prominent risks. Investment in Cirrus is not recommended for long term investors because of these risks and also because of the fact that the company's revenues are expected to shrink in the future. Our price target also affirms this recommendation. In our view, the stock of Cirrus should be avoided for now.
Risks to Thesis:
- Substantial diversification of the customer base and more equally distributed revenue streams from these customers will render this thesis incorrect.
- Development of highest quality, most cost effective and lowest power consuming ICs by Cirrus will also render this thesis incorrect.
Additional disclosure: Equity Flux is a team of analysts. This article was written by our Technology analyst. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.