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Should You Invest In Cree, Inc. (NASDAQ:CREE)?

 March 07, 2011 10:57 AM
 


We are revisiting 'Should you invest in Cree, Inc. (NASDAQ:CREE)?' story that I had posted on December 30, 2010. CREE is a market leader in light emitting diode (LED) lighting. While motivation for that story stemmed from the fact that the stock was upgraded to outperform with a one year target price for Cree at by analysts at Morgan Keegan rating agency; the motivation for the current story stems from the fact that analysts' consensus one year target estimate is now down to $66.5 making me reassess the investment story. 

Cree's prospects tied to the over-crowded LED industry

Cree had been in business since 1987. The company develops and manufactures light emitting diode (LED) products, silicon carbide (SiC) and gallium nitride (GaN) material products, and power and radio frequency (RF) products.

[Related -Cree, Inc. (CREE) Q2 Earnings Preview: What To Expect?]

So far, the company's stock has seen two broad cycles of bullish phase. In the first cycle, its stock saw a historical peak of (March 10,2000) only to fall back to a low of $12.96 within a year's time. Thereafter until end 2008, it remained range bound never crossing even once. The second bull phase started towards the end of 2008 and remained in force till April 2010. However, this time the bull phase was not as strong as the first one. The major difference between the first and second bull phases was the intense rivalry between the existing players and the threat posed by the new entrants. 

[Related -Cree, Inc. (CREE): Can The LED Maker's Results Show Some Light?]

Four years ago, LED market size was estimated to grow from $4.6 billion in 2007 to billion in 2010. Economic contraction, post the sub-prime crisis, led to slowdown in the market. The market size was recorded at $5.6 billion in 2009, as against a previous estimate of billion. The market almost doubled in 2010 to $10.8 billion, and it is now forecasted to reach billion to $19 billion by end 2015. LED penetration might continue to develop till 2020 or at best till 2022.

Though the market pie has been expanding, Cree has to compete with bigger players such as Nichia, Samsung LED, Osram Opto Semiconductors, Philips Lumileds Lighting, Seoul Semiconductor, and LG Innotek. Cree also has to ward-off competition from smaller players such as Sharp, Toyoda Gosei, and Everlight. These companies are taking different routes to growth. Samsung LED, Seoul Semiconductor, and LG Innotek rode the boom in the LCD TV and monitor backlight market. Osram rode the rise of the Chinese HB-LED market, especially in the automobile sector. Lumileds' success in high-power backlight products, cell phone flash, and architectural lighting contributed to much of its success. Cree's dedicated focus on lighting ensured its continued strong position in the solid-state lighting revolution.

Despite increasing competition from both existing and new entrants, Cree has seen its revenues increased from million in 2000 to $867.3 million in 2010. However, it also saw revenue dips in 2002 and 2007. Analysts expect the company's revenue to grow to in 2012, skipping the five year cycle. However, I differ with them. 

Five year contraction cycle is not some sacrosanct law written in stone. However, I expect the company to see revenue dip in 2012 due to declining prices, margins, and inventory correction – thanks to the Chinese LED industry investment policy that has resulted in overcrowding.  Does this mean, you don't get profitable opportunities to invest in the stock?

Short cycle

If we consider a period of one year, the stock has seen three up-cycles and three down cycles, and it is now in the down cycle. It is now due for an up cycle. I think, investors who invest now and offload the stock by July have a chance to benefit from their trades. If they miss that cycle, I think they will have to look for an exit in May 2012. But, beware that this is not a multi-bagger stock, so better lower your expectations.

Lower your expectations

Table 1given below should make you lower your expectations on the stock price development. Since December 30, 2010, the stock didn't touch $70 even once while the number of times the stock price ranged between and $70 was also limited. So, it's better to lower the expectations for the stock price development. I think, investors can benefit by entering or accumulating the stock at current levels and offloading the stock when it reaches

Table 1

 

Less than or equal to $66.5

Greater than $70 but less than

Greater than

Total

Open

37

7

0

44

High

35

9

0

44

Low

39

5

0

44

Close

36

8

0

44

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