Editor’s note: This column is part of our Best Stocks for 2015 contest. Jon Markman’s pick for the contest is Ambarella (AMBA).
When companies put up consistently excellent performance quarter after quarter, that pace becomes the new standard by which they are judged. This is especially true for young growth companies, as skeptics are always searching for chinks in the narrative.
With that in mind, it’s time to revisit Ambarella (AMBA), the high-definition video chipset and compression software maker, which my entry in the Best Stocks for 2015 contest.
The company was started in 2004, and its products are used in a wide variety of innovative professional and consumer applications including network-connected security cameras, sports cameras, wearable cameras, flying cameras and automotive video processing solutions.
When it comes to cutting-edge camera technology, Ambarella is at the forefront in nearly every niche. Let’s take a look at the security IP market, for example. The security and surveillance industry is going through an interesting shift, as antiquated, black-and-white, fuzzy-image analog cameras are being replaced by smart IP digital technologies.
Ultra HD cameras with 4k resolutions and advanced processing features that can auto-detect alarm-triggering events or track retail customer behavior are becoming commonplace. With higher-quality video technologies comes the challenge of transferring this data at high speeds over limited bandwidth that’s often being shared with all the connected devices we can’t live without.
Networking demands are only being increased by the Internet of Things (IoT) revolution, where everything from our laundry machines and thermostat controls to home lighting and refrigerators will be connected and competing for limited network bandwidth.
AMBA Stock Leads the Charge
That’s where Ambarella comes in. It has some of the most efficient and highest-quality compression technologies available, including real-time transcoding between video formats that can deliver optimal video resolutions across various formats.
The company is able to apply these technologies across traditional Internet camera markets, as well as broadcast infrastructure and their growing automotive segment, which includes advanced driver assistance systems, dash cameras, and 360-degree surround view cameras.
I’ve been on board with Ambarella since it went public in the fall of 2012, and although shares have risen more than 800% since then, it is still an early-stage growth company at just under $2 billion in market cap.
Shares hit a high of $129.19 per share this summer and looked ready to continue conquering the world, but were knocked back by an earnings report that was merely sensational and not amazing. It now trades under $70. Since my last update in early July, shares of the company have declined nearly 40%, with much of the smackdown coming in September.
But things are far from grim for Ambarella Inc.
The “sky is falling” narrative pushed by bears is unwarranted. Despite what can be described as a tough business and market environment the past couple of months, shares of AMBA remain up 13% for the year — beating the Nasdaq by 15 percentage points.
Additionally, the company just reported another outstanding quarter of sales and earnings that blew away expectations.
Ambarella Still Has Strength
Ambarella reported second-quarter revenues of $84.2 million, which represented a 79.3% jump from a year ago and well above the $81.7 million that analysts expected. AMBA also posted a 148% climb in earnings, in part due to improved gross margins.
Chief executive Fermi Wang noted in a statement that revenues from existing wearable, IP security, and automotive video markets grew significantly during the quarter, while AMBA experienced solid growth from drones.
So why the recent weakness in Ambarella shares?
Outside of the general malaise of the overall market, the management team guided for third-quarter revenue expectations of $90 to $93 million, which would represent an increase of about 40% from a year ago. Most technology companies would kill for annual growth like that, but as I mentioned in the opening paragraph, expectations are high, even as management remains cautious.
Additionally, for the first time, the company expects a year-over-year decline in the wearable camera segment, but chalks the shortfall up to the timing of new product launches from customers GoPro (GPRO) and Xiaomi, which is out of its control.
Research and Markets, a boutique analytics firm, issued a note recently stating that the wearable camera market is still in the early stages of development and continues to experience rapid growth. They forecast shipments will increase from 5.6 million last year to over 30 million units annually by 2020, representing a compound annual growth rate of 33%.
Ambarella remains a market leader in this segment, and its customers operate on both the high-end and the low price point ends of the spectrum. There’s nothing to suggest that the slowdown will be anything more than an current-quarter anomaly.
Valuation was a previous concern for some analysts that follow the sector, but with shares now trading at 17.7x next year’s earnings, I would consider AMBA stock an outright bargain.
Jon Markman writes a daily trading newsletter, Trader’s Advantage, and CounterPoint Options, a service geared towards helping individual traders make steady, consistent profits with the VIX. Follow him on Twitter for his latest take on markets and innovation.
