The short story on Cirrus Logic (CRUS) is that it reported a bit light for calendar Q3 and guided notably below calendar Q4 expectations. However, I don't see either as reason to materially alter our view of the company. First, business outside Apple (AAPL) continues to show signs of traction and it appears the relationship with AAPL remains solid. While CEOs normally don't comment on rumors, CRUS' CEO was nice enough to make a statement about the rumors involving the loss of design positioning at its largest customer, which as we all know is AAPL. From the conference call transcript:
"Our outlook for this business is stronger than ever and while we generally don't comment on rumors, I'd have to say, in this case that rumors of our demise have been greatly exaggerated."
CRUS guided for an increase in business with AAPL, but offsetting that are expectations industrial business will be off as will business with some of its home audio customers. Industrial, which more than doubled year-over-year to nearly $30M, is getting hit on two sides for calendar Q4. First, it is a seasonally slow quarter for industrial and second we're seeing the industrial sector lower aggregate inventory levels due to shorter lead times for components. Both are perfectly normal events and within the scope of expectations. In the case of CRUS, we've also seen what I think will prove to be just a pause in the energy-related markets is serves. It is also worth noting that in the case of CRUS, since we'll see a higher mix of AAPL business in calendar Q4, it is reasonable to expect CRUS to guide for lower gross profit margins, which it did.
Given the weaker-than-expected guidance for calendar Q4, I think it's best to fudge down our earnings estimate for fiscal 2011 (ends March 2011) to something between $1.30 and $1.35. If we adjust for CRUS' net current asset value of about $3.00, we can see at the current price that CRUS is trading at only 8.2 times the low end of my forecasted range for fiscal 2011 plus net current asset value. In my view, that is notably below what I think is a reasonable valuation unless you want to assume CRUS is destined to fall on its sword. Of course, given the number of times CRUS has done that in the past, it's not surprising some investors are betting it will happen again.
While there are clearly risks for CRUS going forward and the amount of revenue contribution from AAPL remains high on that list, it appears to me CRUS has done a good job of growing outside AAPL and is in the process of gaining broader sector exposure, which should over time improve both the cyclical and seasonal nature of the business model. I believe that if CRUS can maintain this trend, rebuild industrial sector momentum in calendar Q1, which is normally a seasonally strong quarter for industrial, and give investors some faith that it can report the $1.50 fiscal 2012 earnings consensus, we'll see the stock rebound sharply. If we were to assume these events will come together and use the $1.50 fiscal 2012 earnings consensus as the basis for a valuation model, at even a valuation multiple of 12 plus net current asset value CRUS would trade in the low $20s; with a valuation multiple of 15 the price would be in the mid-$20s. Based on this and my belief CRUS is developing a better balanced business model, I think the selling today is way overdone.
Disclosure: At the time of this publication, out of the companies discussed herein, Paul McWilliams had a long position in AAPL.