Why Our $31 Price Estimate For Cree Is Justified
Cree (NASDAQ:CREE) is a leading innovator of light emitting diode (LED) products, lighting products and wide band gap semiconductor products for power and radio-frequency (RF) applications. The company has been experiencing a lot of volatility in its stock price over the past few quarters. Investors remain concerned largely about the company’s shrinking gross margins and slow revenue growth in the LED and the Power and RF segments compared to the year ago period. However, our stance on Cree remains bullish, as we find the company strongly positioned to tap the LED lighting market, which is set to grow 45% per year through to 2019 [1]. Also, we see high growth potential for the company’s Power and RF segment, which is expected to function better as a separate entity, Wolfspeed, once it is divested.
Our price estimate for Cree stands at $31, price estimate, which is about 25% ahead of the current market price.
See Our Complete Analysis for Cree Here
Cree Is Well Positioned In The LED Domain
The lighting division of Cree, which constitutes 58% of its overall revenue, saw 11% year over year growth in its revenues for Q1 fiscal 2016, offsetting the impact of 15% decline from its LED components business, which suffered price erosion due to excess supply. Though the adoption of LEDs for general lighting is in its nascent stage, we find Cree well positioned in its ability to tap the future growth in the market by providing high quality and low cost products. This is evident as the company intends to work on building new lighting systems to reduce the cost and improve payback. Additionally, the company spent around $62 million over the past two quarters in its ongoing restructuring plans for its LED business. We expect that this initiative by the company’s management will be reflected in its future earnings, as a result of an improved cost structure. Subsequently, Cree will be able to pass on the savings to its customers, driving volume growth for its products and boosting the overall revenues.
Power and RF Segment Has High Growth Potential
Cree’s Power and RF Products segment has seen a decline in revenues and gross margins over the past quarter, which has been attributed to a slow roll out of 4G devices in China. Earlier this year, the company had announced a registration statement for an IPO to take its Power and RF business public and create a new entity under the name Wolfspeed. This will enable Cree to better focus on its LED and lighting business, while also increasing its focus on the Power and RF segment. While the segment accounts for just 6% of Cree’s revenue, it still provides the company a higher gross margin than the LED and lighting business. Moreover, with the acquisition of Arkansas Power Electronics International (APEI), Cree can expand its research and development capabilities to meet performance and cost in the Power and RF business.
The company said that Wolfspeed’s value will be unlocked with its share distribution in the second half of fiscal 2016, as it expects incremental revenues from new design wins. Additionally, Cree won crucial contracts with the U.S. Airforce [2] and the Department of Energy-funded N.C. State for its Power devices [3], which should bolster its revenues and improve performance capabilities in the coming months as the project gets completed.
The Company Is Using Its Cash Well
Cree appears to be in a low risk position with a debt to equity ratio of 0.08, which is low compared to its industry peers. The company has not financed its growth aggressively with debt because its cash flows have been strong, which are being reinvested in the business. Cree has even used its excess cash effectively to buy back shares worth $550 million in fiscal 2015 and has plans to invest another $500 million in share repurchases in fiscal 2016. The company appears determined to provide returns to its shareholders, who have not gained much through stock movement over the past year. This is evident from the fact that Cree actually raised some debt to go through with its buyback plans. And even though the company reported a net loss for fiscal 2015, its cash position remained positive with net cash and cash equivalents of approximately $139 million at the end of the year.
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