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Relying on Apple , or any one source for a good portion of revenue, is a double-edged sword. It is no doubt an advantage to have a big-volume smartphone player on your side, but when things start going south, things can turn quick.
Cirrus bites the dust
Take component supplier Cirrus Logic for example. Cirrus derived 82% of its revenue from Apple last fiscal year, but news that it lost the audio amplifier slot in the iPad Air to Maxim Integrated Products led to a huge crash in the share price. Cirrus used to change hands for around $45 a share in September last year, but is now languishing at around $20 a share.
Cirrus' growth has taken a big hit and its earnings are expected to drop at a rate of 32% a year for the next five years. The company is now trying to look for diversification opportunities, but there is no immediate relief in sight.
But, the loss of the iPad Air amplifier slot is expected to hurt just 5% of Cirrus' annual sales. Still, the company's earnings are expected to drop at a massive rate according to Yahoo! Finance analysts. This clearly points to the fact that if any supplier is unable to grow its content inside Apple's devices, it is in for troubled times.
Even though iDevices are expected to sell in huge numbers this quarter, Cirrus' revenue is expected to decline on a year-over-year basis. This means that it is highly probable that Apple is negotiating lower prices for Cirrus' solutions, creating pressure on both top and bottom lines for the component supplier.
Same goes for OmniVision
Cirrus Logic is not an isolated case. Image sensor manufacturer OmniVision Technologies is yet another example of how a loss of business from Apple can seriously hurt a suppliers share price.
In mid-2011, OmniVision traded for around $36 a share, but now it trades at around $17. OmniVision lost a portion of its business to Sony at the time when the iPhone 4s was launched and unfortunately, the trend has continued. Sony once again supplied the camera sensor for the iPhone 5s, although OmniVision is the second company supplying some of the sensors.
Also, it won't be surprising if Sony becomes the sole supplier to Apple going forward as the iPhone 5s camera has been praised for its "SLR-like" quality. Also, Sony has been strengthening its position in image sensors. According to Bloomberg, Sony has captured a third of the $7.6 billion image sensors market and supplies to both Samsung and Apple.
Camera sensors are now commoditized components which is why bigger players, such as Sony, enjoy economies of scale. Sony is reportedly planning to buy a factory from Renesas Electronics in order to increase production of its imaging sensors, according to Reuters. The global CMOS sensor market is expected to grow 60% in the next five years, according to Techno Systems Research, and Sony is looking to make the most of it.
As such, OmniVision is now seeing a "slowing smartphone market and intensifying competition." Hence, even though OmniVision says that it is still exploring emerging markets such as China and India, it remains cautiously optimistic about its future.
Management believes that the roll out of LTE in China and emergence of low-cost 3G smartphones in developing countries will prove to be a boost for its business. However, low-cost devices will ideally generate lower revenue than premium devices, leading to pressure on margins.
So it shouldn't have surprised many when OmniVision issued a disastrous outlook for the ongoing quarter. It expects earnings between $0.28 and $0.44 per share on revenue of $310 million to $340 million in the third quarter. These are way behind the respective analyst estimates of $0.43 per share in earnings on $402 million in revenue.
If OmniVision manages to hit the mid-point of its revenue guidance, it would result in a drop of 23% from the year-ago period. Now, in a quarter where Apple is expected to sell 54 million iPhones and 24.8 million iPads according to Canaccord Genuity, up 13% and 8% from last year, a steep drop in revenue is a big red flag for OmniVision investors.
Time to sell
As such, it would be prudent for you to hit the sell button and gain the profit that OmniVision has given you in the past year or so. The imaging sensor market is heavily commoditized and bigger players such as Sony and Samsung enjoy scale advantage.
OmniVision derives around 28% of its revenue from LG Innotek and Foxconn combined, both of which are associated with Apple. The company is probably losing business to Sony, which is looking to boost production, and it could continue losing content going forward.
Hence, even at a cheap trailing P/E of 11.6, OmniVision doesn't look like a good investment and now might be a good time to sell. It is following a similar pattern as that of Cirrus Logic, which trades at a cheap 9 times earnings but looks more like a value trap than a value play. You should look to sell OmniVision and Cirrus Logic as they could continue to underperform in 2014.
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The article 2 Stocks You Should Get Rid of Before the New Year originally appeared on Fool.com.Harsh Chauhan has no position in any stocks mentioned. The Motley Fool recommends Apple. The Motley Fool owns shares of Apple and Cirrus Logic. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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