Why A Beaten Down Cree Could Be A Smart Long-Term Investment

| About: Cree, Inc. (CREE)

Summary

Cree is on track to benefit from the multi-billion dollar LED lighting market.

Cree is introducing new technology and is working on reducing costs.

Cree is already growing at an impressive pace, and the company's valuation seems impressive, making it a smart choice on the drop.

The opportunity in light-emitting diode (LED) lighting is huge. In fact, according to a McKinsey report, the LED lighting market will be as huge as $94 billion by the end of the decade, growing at a CAGR of 34% till 2016, and a rate of 13% from 2016 to 2020. Now, this means that a pure-play LED lighting player such as Cree (NASDAQ:CREE) is on track to benefit from this booming market.

How is Cree doing

However, a look at Cree's stock price performance this year doesn't paint a bright picture. Cree shares have lost 26% of their value in 2014. The company also reported a mixed set of numbers during the fourth quarter, with revenue marginally below Street estimates. However, its earnings were in line with consensus expectations. In addition, the LED manufacturer issued a weak outlook for the ongoing quarter, which indicates that it might be losing momentum.

Hence, considering this performance, it is not surprising to see that Cree is trading close to its 52-week lows. However, the fact that the company has been reporting impressive growth cannot be ruled out. Cree reported revenue of $436.3 million, a 16% rise from the year-ago period of $375 million. But, this was marginally below the consensus estimate of $444.1 million. Its adjusted earnings for the quarter came in at $0.42 per share, as compared to $0.38 per share last year. Thus, Cree displayed impressive growth in the previous quarter.

For the first quarter of the next fiscal year, Cree's revenue guidance was in the range of $440 million-$465 million, below the consensus estimates of $475 million to $465 million. The outlook, no doubt, might have sparked fear among investors. However, we need to take a closer look at Cree's long-term potential, and see how it might perform in the long run.

Focusing on technology to capture more market

Earlier this year, Cree introduced what it calls the SmartCast technology. According to Cree, this will help it tap the commercial lighting market. The specialty of SmartCast is that it is a self-programmable wireless lighting control system. The technology integrates both occupancy-sensing and daylight harvesting technologies in a single platform. The company believes that this technology will deliver sizable energy cost savings in comparison to traditional lighting controls.

Also, Cree had introduced in January what it calls the brightest LED in the market, equipped with cutting-edge color quality. Looking ahead, Cree is working on making its bulbs more energy efficient. In line with this strategy, it has unveiled the LEDway HO series. This series is expected to deliver higher energy savings of as much as 50% as against 400 watt high-pressure sodium Roadway Luminaires.

Additionally, Cree has launched CXB High-Bay Luminaires. These are expected to decrease the need for fluorescent and HID high bay luminaires that require high maintenance and consume greater energy. Management claims that the CXB luminaires cut energy costs in half, and they also reduce maintenance costs. So, the company is moving in the right direction to make the most of the growing LED opportunity.

Improvements expected

For the near term, Cree's outlook might seem tepid. But, according to Avinash Kant of D.A. Davidson, "We expect strong top-line growth for Cree over the next five years as adoption of LEDs grows." Looking ahead, management sees lighting, power, and radio frequency solutions to make progress, and ultimately help it deliver growth in the long run.

Going forward, Cree is working hard to increase its LED lighting sales and build its brand image in both the consumer and commercial markets. It has launched various new products recently with a continued focus on innovation as we saw above, and management expects this to drive strong growth in both LED fixtures and LED bulb product lines going forward.

To focus on innovation, Cree has partnered with third party manufacturers to fulfill the demand for LED lighting. This partnership will enable its existing facilities to concentrate more on technology innovation. According to management, "Our internal LED chip team is focused on the high performance, high power LED chips that differentiate Cree LEDs in the market."

It is also working with LED chip partners on a mid-power sapphire LED chip, which is experiencing strong demand. In addition, Cree has LED lighting manufacturing partners that are focused on higher volume products. This will enable the company to support various new products by providing more flexibility to its internal factory setting, and also reduce the time required to market new technologies. Cree is planning to increase the production rate of its own facility and of its partners as well.

Valuation and conclusion

Cree has a trailing P/E ratio of 44.56, which is quite expensive as compared to the industry average P/E of 21.57. But, its forward P/E looks impressive at 20.42, which indicates that its earnings will improve in the future. Cree management is taking various strategic initiatives as mentioned above to fuel its growth.

Since the stock is currently trading near its 52-week low, Cree might prove to be a good buy. the company's valuation is impressive, and at the same time, it is undertaking moves to expand its business. Hence, investors should consider this beaten down stock for the long run.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.