Up 3x From Its Covid Low, Coherent Inc. Stock Overpriced?

Coherent Inc. stock (NASDAQ: COHR) is up more than 50% since the beginning of 2020, and at the current price around $252 per share, we believe that Coherent Inc. stock has around 20% potential downside.

Why is that? Our belief stems from the fact that Coherent stock has tripled from its low in March 2020, while the S&P has moved only around 70% in comparison. Further, after posting mixed Q1 2021 numbers, and with demand struggling to rise to pre-Covid levels, we believe Coherent stock could head lower. Our dashboard What Factors Drove 139% Change In Coherent Stock Between 2018 And Now? provides the key numbers behind our thinking, and we explain more below.

Coherent is a manufacturer of laser equipment and components, used across a variety of applications. Coherent saw a 35% drop in revenue between 2018 and 2020 (Coherent’s fiscal year ends in September), which combined with a meager 2% drop in the outstanding share count, led to revenue per share dropping by 34%, from $77.43 to $50.99.

Further, Coherent’s P/S (price-to-sales) ratio jumped from 1.4x in 2018 to 2.8x in 2019, due to a rise in investor expectations. Coherent Inc. saw a fall in profitability from 2018 to 2020, with EPS dropping from $10.07 to -$17.18 over this period, due to revenues falling faster than expenses, and a large $450 million goodwill impairment charge in 2020. However, Coherent’s P/S ratio has further jumped to 5x currently, riding the rally in semiconductor and technology stocks. We believe given Coherent’s mixed Q1 ’21 performance, there is a possible downside risk for the P/S multiple.

So what’s the likely trigger and timing to this downside?

The global spread of Coronavirus and the resulting lockdowns have hampered industrial activity, leading to a drop in semiconductor demand from the industrial and materials processing sector. This severely hampered demand for Coherent’s lasers from these sectors, which is evident from Coherent’s full-year 2020 results (for fiscal year ending September), where revenue came in at $1.23 billion, down from $1.43 billion for FY 2019. Demand has improved since and Coherent’s Q1 2021 revenues came in slightly better at $326 million, up from $321 million in Q1 2020. However, the inability to control operating expenses and a higher effective tax rate, saw EPS come in at $0.01, down significantly from $0.24 for the same period last year.

Going forward, we expect revenue growth to stay weak in the near to medium term, and if the company is not able to control expenses, we believe the stock will see its P/S multiple decline from the current level of 5x to around 4x, which combined with a reduction in revenues and margins could result in the stock price shrinking to as low as $200, a downside of around 20% from the current price near $252.

While Coherent Inc. stock may seem fully valued, 2020 has created many pricing discontinuities which can offer attractive trading opportunities. For example, you’ll be surprised how the stock valuation for BWX Technologies vs. D.R. Horton shows a disconnect with their relative operational growth. You can find many such discontinuous pairs here.

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