Since reporting earnings, Universal Display Corp. (NASDAQ:PANL), also known as "UDC," has rallied, closing Friday, Aug. 17, at $42.96, up 43% at its $30 low reached at the beginning of August. Investors were surprised that the company attributed royalty revenue from Samsung (OTC:SSNLF) during the quarter. In addition, UDC said during its conference call that it would be the supplier of choice for green phosphorescent emitter material at Samsung.
Similar to companies like graphics maker Nvida Corp. (NASDAQ:NVDA) or glass maker Corning (NYSE:GLW), UDC benefits from the growth of Android smartphones and tablets. For example, Nvida reported a strong quarter that was helped by strong demand for Tegra 3, the processor powers the Nexus 7 Android tablet. Samsung's Galaxy S III uses Gorilla glass, which is made by Corning. For UDC, Amoled grew 93%, representing 20% of the midsized display market and up from 11% last year. Samsung's S3, which uses OLED, already sold 10 million units so far this year.
Bullish Case for Universal Display
UDC is a compelling investment because it operates on a business model that generates margins for emissive materials in the range of 85% to 90%. After 3% of the revenue is paid to university partners, margins may be up to 97% if license fees are past breakeven.
UDC reported its strongest revenue ever. The company earned a net income of $11 million, or $0.23 earnings per share, on revenue of $30 million, up 167%. $15 million of the revenue reported came from royalty payments from the license agreement with Samsung. Last year, UDC received $1.8 million.
During the quarter, the company acquired Fujifilm's OLED patent portfolio for $105 million. Without the acquisition, the company would have had $350 million in cash. Half the patents acquired relate to device architecture, while the other half covers OLED materials. Growth potential comes from product development. The acquisition gives the company the freedom to develop next-generation material systems and technologies in red, green, yellow, and blue.
The OLED space is growing rapidly, which will benefit Universal Display. According to oled-info.com, there will be 261 million OLED smartphones in 2013, up from 176 million this year.
UDC may gain more customers. Ten companies are currently evaluating the green materials, but are all in the prototyping review phase.
Risks to Bullish Case
UDC accumulated inventory during the quarter. Inventory rose to $8.6 million at June 30, 2012, up from $3.8 million as of Dec. 31, 2011. UDC had no inventory in the second quarter of 2011. The risk may be viewed as confidence from management. The company said during the conference call that it accumulated inventory because it anticipates demand for OLED materials to grow.
OLED demand is reliant on devices, a risk for investors. UDC would benefit if OLED TVs sales were to grow, but the company does not anticipate any meaningful revenue in this segment. Investors should note that sales for green phosphorescent emitters and host materials were flat from the previous quarter.
Strong sales for Samsung devices that use OLED will ultimately benefit UDC; it provides positive exposure for the company. The popularity of OLED will help attract more customers for UDC. In the interim, investors benefit from the steady revenue paid by Samsung Display Corp. UDC has a long-term license that runs through 2017. For 2012, the company will report $15 million in the fourth quarter.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.