Why Investors Should Avoid Ambarella Inc Stock … For Now

Ambarella Inc (NASDAQ:AMBA) made headlines recently when AMBA stock rallied 14% to its best level in a month on the back of its strong third-quarter results.

The niche semiconductor company brought in revenue of $89 million, which was a slight beat but still down 11% from last year, while earnings of $0.75-per-share bested the estimate by $0.08. Ambarella management also provided guidance that was basically in line with expectations.

AMBA stock investors clearly liked the report, but after looking at the numbers in more detail, I’m not so sure this bounce will last. There are two long-term issues that the stock still faces.

AMBA Stock: Long-Term Issues Remain a Factor

The first is competition, with big-name chip companies like Intel Corporation (NASDAQ:INTC) and Qualcomm, Inc. (NASDAQ:QCOM) moving in on AMBA’s territory. That’s never a good sign for a small player as it is difficult for them to compete with the money behind the big guys. The competition has led to falling margins, which have in turn hurt the company’s bottom line.

The second issue AMBA stock faces is falling sales from some of its customers. The biggest concern is with drone-maker GoPro Inc (NASDAQ:GPRO), which is Ambarella’s No. 1 client. GPRO’s sales peaked  and the shares are struggling as a result.

Over the years, GPRO and AMBA stock have traded in sync. If one was up, the other was up and vice versa. Recently, though, AMBA has been able to shake that trend, holding up much better as GPRO continues to falter.

When a company’s top customer is struggling, oftentimes it will be forced to find a replacement to make up for the loss in sales. However, I don’t see that happening in this case, so I expect Ambarella’s earnings and share price to be hurt.

While there are some reasons to be optimistic about AMBA stock here, they’re stretches to say the least. First, Ambarella is expected to introduce its CV1 computer vision chip in January at the Consumer Electronics Show (CES). That could stir some short-term enthusiasm.

There is also the possibility that a company like INTC will make a bid for Ambarella.

Both of those could act as brief catalysts for AMBA, but I don’t think either is enough to really get this stock moving again over the long-term. Plus, I would never buy a stock solely based on the potential of  getting bought out. Therefore, I’m staying away from AMBA stock for now.

Matthew McCall is the founder and president of Penn Financial Group, an investment advisory firm, as well as the editor of FUTR Stocks and the ETF Bulletin. Matt just launched two new investment advisories focused around the “next” generation investing theme. His trademark three-prong investing approach targets the mega-trends old Wall Street is missing out on. Click here for more information on the “NexGen” Experience.

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