The share price of Ceva (CEVA) experienced blunt force trauma last week, dropping a whopping 22% in one trading session. In actuality, it was more like a self-inflicted wound because although they met earnings and revenue expectations in their latest quarter, they guided down for fiscal year 2012 due to a weakness from Nokia (NOK), a customer they do significant business with.
It's no secret that Nokia isn't outmaneuvering the likes of Apple (AAPL) and Google's (GOOG) Android in the smarphone wars, but they are a significant client for Ceva, primarily in the 2G space. The 2G spectrum has gained critical-mass in feature phones where Nokia previously excelled. That's not going to make Nokia a highly sought after security, but 2G is still a cash cow for Ceva. Worldwide, 2G enabled feature phones outnumber smartphones 2:1.
As Ceva CEO Gideon Wertheizer articulated in the latest conference call:
The 2G space carries majority of the baseband volume globally. After one quarter of softness, volumes are getting back to normal levels and we expect to maintain our strong portfolio.
Besides feature phones, another area that may produce a steady steam of income in the 2G space for Ceva is machine-to-machine. Applications in this wireless sub-sector include: assisting advanced robotics in factory automation, updating electronic billboards, and monitoring smart utility meters. Industrial strength applications for automated communications.
I don't mean to dwell on 2G to the extent I have been, but that is why the stock was punished; it's exposure to Nokia and their decreasing market share. There is some mythology with Ceva's guidance going forward that makes my decision to purchase shares of the company at $22 seem like a self-destructive choice, considering it crosses the tape at $17 now. However, I contend that if you have big picture vision, there is a certain demographic that seems to be hypnotized by their handheld computer screens that will enable Ceva to excel in the semiconductor design arena.
Here are some conference call quotes from CEO Wertheizer that accentuate Ceva's stance on the Nokia situation including both the 2G and 3G spectrums:
- "In the mobile phone category, Nokia Q1, 2012 results and Q2, 2012 guidance reflect a noticeable volume reduction primarily due to competition from China based OEMs with broader portfolios of feature phones with smartphone functions such as touch devices."
- "The 2G market is stable. It's a 1.3 billion, 1.4 billion units a year in the next four years. So, I don't see us losing share, I don't see newcomers that can take major share... So it's 3G and indeed that will take us beyond the level that we're at in the 2G."
- "The 3G segment possesses big opportunities for us to gain market share as evidenced by numerous new handsets enabled by our DSPs such as Samsung (SSNLF.PK), HTC (HTCKF.PK) and Huawei."
- "First of all, the shortfall or the problem that Nokia has in the smartphone, in actuality, we're taking benefit. As we said in the call, we're planning to be in the Nokia smartphone, but when they lose smartphone share, say to Samsung, and they are loosing share in the smartphone to Samsung, we will directly benefit from that."
So what does the information mean?
First, the increased competition from Chinese OEMs in the 2G sector benefits Ceva from their relationships with conglomerates like Huawei. South Korean technology powerhouse Samsung also produces pressure-sensitive handheld devices in all flavors of the wireless spectrum: 2G, 3G and LTE. These are the companies that are taking a big piece of the pie from Nokia, especially in the emerging markets, and these are significant Ceva customers.
Secondly, because of this rapid growth in the emerging markets, Ceva expects to advance from supplying chips to one billion devices currently, to 1.7 billion in three short years. That's a force to be reckoned with.
Thirdly, Ceva will be supplanting Texas Instruments (TXN) in Nokia's 2G and 3G phones in the second half of this year. If Nokia proves critics wrong with their partnership with Microsoft (MSFT), Ceva gains market share. If Nokia Windows enabled smartphones lose ground to the likes of Google and Apple (which I think they will), Ceva still comes out on top because they supply chips to Nokia's competitors. It's a win-win situation. Let's decipher the numbers and see what you think.
In my last article about Ceva, the stock was trading for $22 with a P/E of 22, and a 20% growth rate. At its current valuation of $17, you get more bang for the buck with a P/E of 18 based on consensus earnings estimates on Yahoo Finance. Doing some cost-benefit analysis, you get a more advantageous price now because although earnings per share were shaved 10%, the price is down 25%. That's savings. In my opinion, the damage has been done with the recent sell-off of Ceva. The one year price target has dropped to $28, that would be a considerable gain if that figure comes to fruition.
Disclosure: I am long CEVA.