Gross margins remain moribund and its outlook for the coming quarter -- its third fiscal quarter 2012 -- was considerably softer than the Wall Street's consensus view.
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Results for the second fiscal quarter weren't exactly in-line, but weren't the reason that Cree shares slide 5% after the close on Tuesday. Revenue of $304 million was below the consensus for revenue at $310 million. Net income of $28 million, or 25 cents per share, was one penny short of the Wall Street view. Still, the real problems for Cree begin with the 35% gross margins reported in the just completed quarter and forecast at the same level for the next quarter, versus the 40% gross margin level that has always been the company's target. In the first fiscal quarter of 2012, margins had been at 36%.The outlook was well off the current analyst expectations with Cree forecasting revenue of $290 million to $310 million and earnings of 18 to 25 cents a share in its fiscal third quarter ending in March. The consensus view is for revenue of $321 million and earnings of 30 cents a share.The weak report from Cree isn't a huge surprise, and it's unclear how much downside risk there is left in Cree shares. Cree's 52-week low is $20.25. It closed trading on Tuesday at $23.33 and was down nearly 6% to $22 in after-hours trading.There were a few encouraging signs in the report, though by no means outweighing the continued margin weakness and soft financial forecast. Cree lost 65% of its market value in 2011 and the disaster was pretty simple to explain: Too much supply in the LED market led to inventory issues, an erosion of profitability and margins.From this standpoint, some second-quarter metrics were heartening. Accounts receivable, days sales outstanding and inventory all decreased quarter over quarter.Days sales outstanding was down from 55 days to 46 days and accounts receivable decreased by $9.3 million. Inventory decreased by $16 million, representing a decrease from 107 days worth of inventory to 85 days worth of inventory. Andy Abrams, analyst at Avian Securities, said "that's not a big move, but at least it's in the right direction."
The Avian analyst was also cognizant of how far Cree shares have already fallen. "$20 has always been the bottom level for me and [I] don't know if it gets down there. Headed into earnings there wasn't much conviction from investors about the short-term trend," Abrams said.
With Cree margins "not going anywhere" it will be important to understand the impact of the Rudd lighting acquisition on the margin weakness, Abrams said.
In late 2011, Cree bought Rudd Lighting to increase its control over the end market for LED lighting, a move which could cause short-term margin weakness but ultimately benefit the LED company, even though end market margins aren't as strong as the type of high-tech margins to which Cree has been accustomed. "If it's just the utilization rate causing the margin weakness, that's a problem," Abrams said. With the supply/demand imbalance in the LED space, Cree has had to scale back its production, and running at less than 100% manufacturing capacity cuts into margins. If, on the other hand, the margin weakness is related to Rudd specifically, it should eventually trend back up, Abrams said. As noted in a Cree preview, just because the worst may be over doesn't mean the stock moves in a straight line up. Putting a specific timeline on the recovery in oversupplied alternative energy sectors has never been easy because of the nascent stage of these businesses and global market visibility (or lack thereof). Betting on long-term trends in alternative energy, like LED lighting adoption, is a tough call to make when it comes to the short-term fortunes of pure play stocks accustomed to frothy margins, as Cree had been used to before the oversupply scenario of 2011. For a look at some of the key themes in the Cree story, from the bullish view all the way to the most bearish, click here. >>Cree is not the First Solar of LEDs>To follow the writer on Twitter, go to Eric Rosenbaum. Follow TheStreet on Twitter and become a fan on Facebook.
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