Cree’s Q1’15 Earnings Preview: Despite Short-Term Weakness Long-Term Growth Remains Intact
Leading LED manufacturer, Cree (NASDAQ:CREE) will report its Q1 2015 earnings on October 21. The company announced its preliminary earnings for the quarter on October 2, and the weak guidance led to an over 10% decline in its stock price. Cree lowered its revenue estimate to approximately $428 million, from its initial guidance of $440 million to $465 million. It also expects GAAP earnings to be below its previously announced target range of $0.25 to $0.30 per diluted share. Cree’s overall gross margin is expected to be below the company’s previously announced target of 36.9%.
Our price estimate of $52 for Cree is at a more than 50% premium to the current market price of $34, and we continue to believe in the company’s long-term growth potential. Product innovation in the last few quarters has opened new applications and improved LED returns, in turn driving additional demand for Cree’s products. The continued growth momentum, combined with a strong balance sheet, gives Cree the flexibility to respond to new opportunities in the market. LED penetration is expected to increase in the future, and being one of the leading global LED manufacturers, Cree will benefit from the trend, in our view.
We will update our valuation for Cree after the Q1 2015 earnings release.
See Our Complete Analysis for Cree Here
Weak LED Product Sales Lower Revenue Growth In Q1’15; Lighting Segment Remains Strong
Cree expects its LED products revenue to decline 20% year to year and 13% quarter to quarter in Q1 2015, due to weaker than expected global demand. We are eager to get a better understanding from the company of the factors that are limiting demand, which has affected both the direct and distributions channels. Nevertheless, management expects continued growth momentum in its lighting sales, which it expects to increase 51% annually and 7% sequentially (which is at the higher end of its guidance) driven by growth in both LED fixtures and LED bulbs.
Cree has a fully integrated vertical business model and is the market leader in both LEDs and LED lighting products. While its lighting sales have shown strong growth so far this year, its LED component sales have slowed down. Cree reported a 156% annual growth in lighting products, while its LED products revenue declined by 8% in Q4 2014 (ended June). The contribution of lighting sales to Cree’s total revenue has risen significantly in the last few years, from 33% in June 2012 to almost 48% as of Q4 2014.
The general LED lighting market is expected to be the primary growth driver for the LED industry, as demand from the backlight market nears saturation. LED lighting accounts for 15%-20% of the global lighting market at present and the LED market share is expected to rise at a rapid pace over the next decade. [1] LED’s accounts for approximately 1% of the U.S. lighting market, and thus remain a largely untapped opportunity. [2]
Cree hit a milestone in driving LED adoption a year back by launching an LED bulb for as low as $10. The LED bulb is considered one of the biggest industry innovations in years and has seen tremendous success at Home Depot stores. Cree’s bulb is the best selling LED bulb in the U.S. and has helped establish the Cree brand as the leader in LED consumer lighting. [3] Cree’s 40-watt substitution LED light (which costs less than $10) has undercut GE 40-watt substitution knob, which is available for $25 at Amazon. Additionally, while GE’s light conveys the same 450 lumens as Cree’s, it consumes 50% more power. ((Is Cree Setting Itself For Higher Growth?, guruFocus, September 28, 2014))
Despite the rising competition, we believe Cree can mange to increase its LED market share over our review period.
Higher Lighting Sales Can Limit Gross Margin Growth
The rising proportion of lighting sales puts pressure on Cree’s overall gross margin as lighting products offer lower profit margins compared to LED components. A higher proportion of revenue from the fast growing lighting LED market is expected to put additional pressure on Cree’s gross margin in the future. The LED bulb price reductions offset a more favorable lighting mix. The company has lowered the prices of the Cree LED Bulb product line by as much as 23%. [4]
However, Cree claims that the gross margin earned on LED bulbs will improve as it focuses on reducing the LED bulb cost. Higher LED volumes combined with lower new cost products, cost reductions and higher factory utilization can help Cree retain its overall gross margin at the current level.
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- Can LEDs Brighten Investor Portfolios?, Investopedia, August 29, 2013 [↩]
- Cree Management Discusses Q1 2014 Results – Earnings Call Transcript, Seeking Alpha, October 22, 2013 [↩]
- Cree’s (CREE) CEO Chuck Swoboda on Q4 2014 Results – Earnings Call Transcript, Seeking Alpha, August 12, 2014 [↩]
- Cree Makes The Biggest Thing Since the Light Bulb Brighter and More Affordable, Cree Press Release, March 12, 2014 [↩]