Avoiding This Stock Is in Your Best Interests

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Well, it wasn’t to be. After enjoying a rally over the past two months, shares of chipmaker Cypress Semiconductor (NASDAQ: CY) plunged after the company failed to bundle its first-quarter results with a good enough outlook. And with that, all hopes of a turnaround that Cypress has been harboring since the year began got quashed.

As I’d stated in the earnings preview, the stock had rallied on the back of an upgrade by analysts at Needham, who were expecting the company’s products to find traction and margins to expand. Sadly, Cypress seems to be failing on these counts, as increased competition in the market for touchscreen controllers is expected to hurt revenue and profitability.

This looks bad

As far as first-quarter results are concerned, there’s nothing much to write home about. Cypress posted revenue $172.7 million and earnings of $0.03 per share, ahead of consensus estimates that were already quite low. Both revenue and earnings were lower than last year’s figures, while the company’s guidance left a lot to be desired.

Cypress expects revenue of $178 million to $186 million for the ongoing quarter, while the Street had set the bar at $183.1 million. If this was bad, then the bottom line expectations are even worse. Cypress is looking to earn $0.06 to $0.08 a share and the Street expected $0.09 per share. Cypress gave more fodder to the bears when it said that its gross margin would continue to be depressed this year, after falling to 50.7% in the first quarter from 55.7% in the prior-year period.

A difficult road

Despite all this negativity, management did try to put up a brave face and offered some positives. Cypress exited the quarter with a book-to-bill ratio of 1.04, which signifies that the company is witnessing demand for its products. Much of this demand is expected to be driven by its Programmable System Division (PSD), which makes its most important products -- TrueTouch and CapSense.

These touchscreen controllers are used across applications such as mobile devices and automotives. Cypress’ important customers for these chips are Samsung (NASDAQOTH: SSNLF) and Amazon.com (NASDAQ: AMZN), while carmakers such as Toyota are also trying them out. Cypress expects ramp up of new products to drive its revenue, but the company has failed to land a juicy design win for its controllers.

While Cypress did supply its chips to Amazon for the 8.9-inch Kindle Fire HD, the tablet didn’t turn out to be as successful as its smaller cousin, a fact that became evident when Amazon started discounting the Kindle Fire HD in order to move more units off the shelves. The price cut might lead to better sales, at least till the next iteration of the tablet is launched, as the $269 WiFi Kindle Fire HD would seriously undercut Apple’s iPad mini.

Moreover, customers might even pay $399 for the LTE version. But, it remains to be seen if Amazon’s move can ignite demand for the tablet and consequently lead it to place more orders, which would be a positive for Cypress.

Also, a lot would depend on how Samsung’s efforts in the tablet market pan out. Samsung’s tablets have done pretty well for themselves over the past year, with the company’s market share increasing to 15% in the December quarter, double from the year-ago period.

If the company can replicate its success this year as well, then it should be a boost for Cypress. However, Samsung would have to ward off the potential challenge of the next version of the iPad mini, which would probably be sporting a retina display. Thus, we need to keep an eye on Cypress’ book-to-bill ratio and check if it holds up well when Apple’s much-anticipated tablet hits the market.

The PSD business has declined rapidly over the past few quarters, and I’m not too sure if a turnaround can happen soon. However, Cypress’ Memory Products Division has held steady, and might even get better as the company has completed its acquisition of Ramtron and it’s already accretive to earnings.

However, declining sales of computers are a big threat to this business. In addition, prices of static random access memory (SRAM) have been plunging over the past few years, and the company’s focus on nonvolatile memory could take time to bear fruit as they are expensive.

What next?

Analysts are expecting a decline in revenue and earnings this year, and Cypress’ recently released results haven’t done anything to reverse analyst sentiment. Keeping all these factors in mind, it would be prudent to avoid Cypress for the time being, even though the company pays a dividend yielding 3.9%. 

Harsh Chauhan has no position in any stocks mentioned. The Motley Fool recommends Amazon.com and Cypress Semiconductor . The Motley Fool owns shares of Amazon.com. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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