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Should You Invest In Cirrus Logic?

 February 22, 2013 09:39 AM

(By Aristofanis) Some shareholders of Apple (AAPL) feel that the market has been unjust to them. The critic claims that their stock would be 50% higher if it had a normal P/E ratio of about 15 instead of 10. Well, if the shareholders of Apple complain about this, how can one comfort the shareholders of Cirrus Logic (CRUS), who own a stock with P/E 7?

Cirrus is a recognized manufacturer of analog and mixed-signal circuits used in a broad range of audio and energy markets. The company exhibited a very poor and unstable growth performance until 2010.

[Related -Fusion-IO, Inc. (FIO): Can Fusion-IO Q2 Results Cheer Street?]

However, in the last 3 years it has demonstrated excellent growth and has built a very strong balance sheet, with no debt and an essential net cash position of about $230 M. Thanks to the excess cash, the company has announced a new share repurchase program of $200 M for this year. At the current share price ($25), the company can repurchase about 8 M shares, i.e., 12% of its free float. Therefore, if the current market price is sustained, then the company can increase EPS by 12% just with its share buybacks. Moreover, it is expected to increase earnings per share (EPS) by 160% this year (ending March-2013), from $1.36 to $3.55.

The reason for the exceptional growth of Cirrus lies in being the exclusive supplier of some constituents of Apple's iPhones and iPads. The portion of CRUS' total revenue that is derived from Apple has increased from 74% in 2012 to 91% in the last quarter.

[Related -Google Inc (GOOG): Why Nest Labs Deal Is A Wakeup Call For Apple Inc.?]

As the current P/E ratio is so low, it is reasonable to wonder whether the current stock price represents an exceptional investment opportunity or there is a reason that the market is so strict with this stock. The main reason for the extremely low stock price should be that the market is pessimistic about Apple. As the earnings of Apple are expected to grow marginally or fall in the future, the same is expected for Cirrus, as well. However, despite the decrease in Apple's profit margins, the expected increase in the sales of the low-margin small iPhones will help Cirrus sell more parts to Apple and hence Cirrus may markedly outperform Apple from now on. Nevertheless, in my experience, whenever there is a sustained, pronouncedly low valuation of a company, the market usually knows something that we don't.

Another reason for the low valuation of Cirrus is probably its great dependence on Apple. Even the slightest fear that Cirrus may not be Apple's supplier at some point in the future is sufficient to put a discount on the stock price. Until 2010, the stock was below $10, so it is reasonable to fear that the stock will return to those levels if the cooperation with Apple comes to an end.

Conclusively, it is really a mystery whether the current stock price of Cirrus represents an attractive entry point for an investor. If one can handle the psychological stress of a high-risk, high-yield investment, then this may be a remarkable opportunity. The stock could double easily if it were assigned a normal, double-digit P/E in the near future. Of course, for the investment to be profitable, the investor should be able to keep cool temper in periods of bad news for Apple, which creates shock waves to the stock of Cirrus.

On the other hand, if one wants to reduce the risk greatly, then one could try to sell put options with strike $20 that expire in January-2014. These options currently have a price $2.85, which corresponds to a yield 16.6% (2.85/17.15) provided that the stock is at least $20 on the day of expiration. In this way, the high yield comes with significantly reduced risk.



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