While Ambarella (AMBA) shares may be up as much as 9% today, that’s not a lot of solace to anyone who took on a stake in the video-processing microchip maker at any point before last Thursday’s close. Even factoring in today’s bounce, Ambarella stock is still down nearly 20% from its peak price hit three trading days ago.
Will today’s big gain from AMBA rekindle the bigger-picture rally we saw unfurl beginning in the middle of last year? Or, is Tuesday’s gain just a temporary reprieve from a major pullback that’s yet to be completed?
Being realistic, it’s probably the latter of those two possibilities.
Right on Cue
If the ticker AMBA rings a bell, it may well be because it’s one of the companies supplying technology found in action cameras made by GoPro (GPRO). Its low-power, high-definition and ultra high-definition video compression and image-processing technologies are ideally suited for such a camera, as its “system on a chip” solution can withstand the jostling these cameras are sure to get.
And as one could expect, the rise in popularity of the GoPro camera brought Ambarella stock along for the ride.
AMBA soared from near $31 in June of last year — when GoPro mania was hitting its full stride — to a high of $128.06 last Thursday. Investors didn’t seem interested in questioning the meteoric rise at any point during that time, but once the uninterrupted gain since the middle of 2014 reached a stunning 312% last week, a frequently-critical research outfit called Citron Research finally had to proverbially ask investors “Are you crazy?”
Considering Ambarella stock fell 25% over the next two trading days simply because Citron asked good questions using public information, clearly something about the report from Citron rang a little too plausible with traders.
What Ambarella Stock is Really Worth
So was Citron’s Andrew Left unfair when he categorized the valuation of Ambarella stock as “ridiculous”? Perhaps.
The trailing price-to-earnings ratio of 51.9 AMBA boasts is undeniably frothy, though investors have seen worse. Many are willing to pay such a premium, however, because Ambarella has been growing its top and bottom line so rapidly.
Revenue is projected to grow 48% this year, from $218 million to $324 million, while earnings per share of Ambarella stock are expected to rise from $2 last year to $3.11 this year.
Broadly speaking, those strong growth rates justify the stock’s equally strong valuation. The issue is one of sustainability; can Ambarella keep this growth pace up, especially if GoPro sales slow down this year (as many have predicted they would)? Citron’s Left is concerned the market doesn’t understand just how vulnerable Ambarella stock is to a potential competitor headwind, explaining in the Citron Research report:
“AMBA has adroitly laddered new chip designs from 720p to 1080p to 4K video formats with increasing frame rates, smaller chip sizes and lower power consumption. This isn’t any great technology breakthrough; it is simply Moore’s law ineffect. AMBA’s market position affords it only a 6 to 9-month lead in the climb up the power curve. … The influx of inexpensive Asian-made, low-cost cameras continues to put huge pressure on suppliers. While AMBA still has pricing power in the 4K platform, the 1080p market has become commoditized at every level.”
It’s reasonable food for thought for current and would-be Ambarella stock owners.
Bottom Line for AMBA
While Citron’s Left acknowledges the company had the right product at the right time at the right price last year, his contention is that the stock’s price simply raced out of control, and won’t be able to justify such a valuation in the foreseeable future.
Specifically, he’s established a 12-month price target of $60 per share of Ambarella stock, and an 18-month price target of $40 per share. Compared to the current price near $102 per share, that’s a troubling outlook.
It’s not a completely unreasonable one, however.
As of the latest look, analysts collectively expect Ambarella to earn $3.65 per share in 2016; that figure marks the expected beginning of a tapering-off of the bottom line’s growth rate. At Left’s near-term target price of $60 per share, AMBA would still be valued at a P/E of 16.3 based on 2016’s projected bottom line.
That’s a fairly reasonable price, though even at that value there’s not a lot of room for any shortfalls that could develop if GoPro hits an unexpected wall … like new competition.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
