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3 Reasons Why Ambarella Inc (AMBA) Stock Is a Great Buy

Ambarella Inc (NASDAQ:AMBA) stock is up just 1.05% year-to-date. Ambarella supplies low-power processing chips for cameras, addressing the wearable, drone, automotive, IP security, and virtual reality segments.

AMBA Stock

AMBA stock fell 22% at the beginning of September. The company beat expectations for the quarter but warned of potential weakness in the drone market. Since then, the stock has recovered much of this lost ground.

Last month, Morgan Stanley analysts raised their bullish price target for Ambarella stock to $115 (their regular price target is $60).

InvestorPlace contributor Chris Lau shares their optimism on Ambarella stock. He also thinks the emerging field of computer vision, which enables machines to see and recognize objects, will propel the company.  

Last year, amid growing interest in connected cars and self-driving vehicles, I wrote 10 Stocks to Buy for the Car of Tomorrow. I included Ambarella as one of the stocks to buy.

Since then, there have been more acquisitions in the space. Intel Corporation (NASDAQ:INTC) purchased Mobileye, a maker of computer vision chips and software, which I recommended in my article.  

Now interest has resurfaced. Cruise, a startup owned by General Motors Company (NYSE:GM), purchased Strobe, a maker of LiDAR sensors for cars. GM says the purchase will help it reduce LiDAR sensor costs by 99%.

I think this automotive technology land grab will continue.

PwC notes that “there were 15 auto-tech deals through June 2017, compared with only three during the same time period in 2016.”

And Ambarella, valued $1.85 billion, with no debt and holds $400 million in cash, would not be too difficult for the likes of Ford Motor Company (NYSE:F) or Panasonic Corporation (ADR) (OTCMKTS:PCRFY) to acquire.

Interest in the Sector

Major automakers, chipmakers and electronics companies all show interest in next-generation car technology. Self-driving cars will need cameras, and this will mean increased demand for camera processing chips such as Ambarella’s.  

In September 2016, Intel bought Movidius, a startup making computer vision processors for drones, virtual reality and robotics. Linley Group analyst Linley Gwennap noted that Intel’s purchase of Movidius may also strengthen INTC’s position in autonomous vehicles.

Last year, Qualcomm, Inc. (NASDAQ:QCOM) agreed to purchase NXP Semiconductors NV (NASDAQ:NXPI), a chipmaker describing itself as the “leader in automotive semiconductors,” for $110 a share. However, the deal hasn’t closed yet, and Qualcomm recently extended its tender offer. Since only 3.2% of NXP’s shares have been tendered so far, Qualcomm might need to increase its purchase price for the company, maybe to $45 billion.

In November, Samsung purchased Harman International Industries, a leader in connected car technology, for $8 billion. Samsung fared better than Qualcomm and the deal closed in March.

And in March this year, Intel made another acquisition, paying $15.3 billion to acquire Mobileye, which, like Ambarella, is also involved in designing chips and software for computer vision.

Look at this pace of acquisitions in car technology, particularly in computer vision for cars, which Ambarella is involved in. The stock market values Ambarella at $1.85 billion, and Ambarella owes no debt and holds $400 million in cash, making the effective purchase price even lower.

Sound Finances

Interest rates have been rather low for the past few years, encouraging companies to borrow more. Edward Altman, a professor of finance at NYU who developed the Altman Z-Score of bankruptcy risk, recently noted that we are in the eighth year of this credit cycle and raised concerns about corporate debt levels.

Once this expansion ends, companies burdened with debt will suffer. Companies with lower leverage, such as Ambarella, will fare better during a downturn.

Ambarella has solid finances, with no debt and $400 million in cash.

Ambarella also has ample liquidity; with $459.71 million in current assets and just $51.59 million in current liabilities, it boasts a current ratio of 8.9.

Ambarella’s Altman Z-Score is also high: 18.96 (a score above 2.99 places a company in the “safe” zone).

Valuation for a Growth Company

Currently, the S&P 500 trades at 25.46 times earnings. Ambarella stock appears a bit more richly valued, trading at 35.54 times earnings.

But as I’ve written in past articles, you should not look at a company’s market capitalization; you should look instead at its enterprise value. Enterprise value takes into account debt AND equity financing: add debt to market capitalization and subtract cash.

Think about it this way. If you pay $1 million to buy a firm that owes $1 million in debt, you become responsible for the debt; in effect you’re paying $2 million. Likewise, if you buy a company for $1 million that owes no debt and holds $500,000 in cash, you’d really just be paying $500,000.

Since Ambarella holds $400 million in cash and owes no debt, its enterprise value falls to $1.4 billion. And when we divide its enterprise value by its earnings, we get a lower EV/Earnings ratio of 26.28.

Not so bad for a technology company that has grown sales and earnings at a double-digit rate over the past few years. Ambarella stock certainly looks cheaper than other fabless chipmakers involved in automotive, such as Nvidia Corporation (NASDAQ:NVDA) and Advanced Micro Devices, Inc. (NASDAQ:AMD).

As of writing, Lucas Hahn did not hold a position in any of the aforementioned securities.

Article printed from InvestorPlace Media, https://investorplace.com/2017/10/amba-stock-great-buy/.

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