Most stocks, like people, come with flaws. Some flaws are deal breakers, while others turn out to be mere quirks that with time you grow to tolerate or even to look upon affectionately. It's rare to find one that's consistently attractive, but I believe I may have done that with OmniVision (OVTI). OmniVision's growth, market leadership, significant resources, and solid profitability are offered at a surprisingly compelling price.
OmniVision produces 30% of the world's image sensors and has been the world's market leader by volume for 6 years, though Sony (SNE) leads by revenue. Other competitors include Micron's (MU) spinoff Aptina and Samsung (GM:SSNLF), as well as a number of tiny Chinese companies. 65% of OmniVision's sensors go into the mobile market, while the rest see a variety of uses including security, notebooks, automotive, and more. OmniVision has a particularly strong presence in tablets at 67%, including both the front and back cameras of Apple's (AAPL) iPad.
Growth
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OmniVision estimates future market growth at greater than a 10% CAGR, though this seems conservative to me, and they have certainly far exceeded that in past years.
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The recent emergence of 4k2k / Ultra HD TVs is mirrored by mobile devices that can capture 4k2k video at 30 FPS. As a high-end part, this should drive revenue and ASPs for OmniVision going forward. I would note that this trend will also benefit NAND companies such as Micron and SanDisk (SNDK) because even with compression, a single UHD movie takes on the order of 40 GB of space, which is more than most mobile devices have.
A number of nontraditional growth opportunities exist, such as motion control and the related technology of 3D sensing. PrimeSense, the company that pioneered the motion sensing for Microsoft's (MSFT) Kinect, has been working on miniaturizing the system which uses a duo of image sensors. A recent demonstration combined a PrimeSense sensor with a Nexus 10 from Google (GOOG) and Samsung. This technology has obvious applications in gaming, TV, tablets, webcams, security, and beyond.
Image sensors are seeing rapid growth from the automotive field. The National Highway Traffic Safety Administration proposed legislation requiring backup cameras, but it's repeatedly stalled in congress. Nonetheless, the trend has been towards rapid integration of vision-assist systems in automobiles. The National Transportation Safety Board has likewise recommended wingtip cameras for large aircraft. Further in the future, automation such as Google's self-driving car will require a whole host of cameras to operate. More than 80 million motor vehicles are sold per year, so transportation is not a small market.
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Over the course of a year Taiwanese LCD driver company Himax (HIMX) went from $2/share to $11/share, with its volume increasing by a factor of about 50. This was due in part to the news that Himax was producing the LCOS (liquid crystal on silicon) display for the beta product Google Glass. It's interesting that Himax is not the only game in town when it comes to LCOS. Micron sold LCOS technology to Citizen Finetech Miyota in 2012, though I'm not aware of any wearable applications from them. The other source of LCOS is OmniVision, and in addition to Heads Up Displays for automobiles, OmniVision has recently released a reference design similar to Google Glass called OmniGlass. I think it's unlikely that Google will ditch Himax as its LCOS supplier given its investment in the company. However, other companies are considering wearable technology including Apple, Samsung, Sony, and Microsoft. It's also inevitable that we'll see Chinese knockoffs of Glass for the Asian market. Google's investment in Himax might give some competitors reason to obtain LCOS displays elsewhere. However, at this point I am not including any significant revenue in my model from their LCOS products and will look on it as a bonus.
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Value and Expertise
OmniVision sits at book value, which includes about $200 million of net cash (cash minus debt.) Approximately another $40 million of book value is due to a purchase of patents from Kodak (KODK) in 2011. I've traditionally preferred solid, tangible assets because they are easier to value, but have gained an increasing appreciation for intellectual property assets and other intangibles because they can provide a competitive advantage. OmniVision's portfolio is extensive. From the FY2013 10-K:
"Our commitment to maintaining our technology leadership is also reflected in our acquisition of a CMOS sensor patent portfolio from Kodak in March 2011. We effectively doubled the size of our patent portfolio from 842 in fiscal 2010 to 1,861 in fiscal 2011. Since then, our patent portfolio has continued to increase in size. As of April 30, 2013, we have been issued 583 United States patents and 736 foreign patents. As of April 30, 2013, we have 248 additional United States patent applications pending, of which 13 have been allowed, and we have 855 foreign patent applications pending, of which 40 have been allowed."
OmniVision's extensive intellectual property allows it to provide a superior product. They also have a longstandng partnership with TSMC (TSM) which together with high volume helps keep costs low. OmniVision's margins have dipped in recent quarters thanks to a transition to a more advanced technology, OmniBSI-2, which has more production steps. With time I believe margins should revert to their historical mean. They are also taking steps to increase their inventory turns which will help reduce inventory writedowns, as mentioned in the last earnings call:
"Our fiscal 2014 first quarter inventory balance represented an annual inventory turn of 2.9 times or 127-day sales, an incremental improvement when compare to our inventory last quarter was an equivalent annual turn of 2.6 times or 138-day sales. We expected to continue to improve our inventory turns during the fiscal 2014."
A Compelling Price
Typically when you find a market leading company with high net cash, a strong patent portfolio, and continual growth, it's priced to match. Surprisingly, even after an increase in the past couple weeks OmniVision has a PE of 13.6 and a forward PE of 9.5, (which I believe to be conservative.) OmniVision sits at book value and has $4 per share of net cash. Take out the cash and the PE and forward PE are about 10 and 7. That's a bargain. OmniVision reports earnings after the market closes on Tuesday, December 3rd. I have a small long position, and will increase it if the story remains as compelling. I anticipate approximately $1.75 in earnings for FY2014. I think a multiple of 13 (excluding cash) is quite reasonable given OmniVision's steady growth, which puts us at $22.75 per share. Tack on OmniVision's $4 in net cash (and climbing) and I think it should reach approximately $27 within a year.
Disclosure: I am long OVTI, MU. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)
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