Ambarella: Investments Are Set To Pay Off

Summary:

• Ambarella has invested a tremendous amount of R&D into expanding its addressable market.
• These multi-year investments are now paying off, but somewhat masked by (supply chain) issues.
• After a big boom, valuations have been reset quite a bit, as valuations here start to look compelling.

I have been watching Ambarella (NASDAQ:AMBA) since the first hour of its public existence a decade ago. In fact the company went public at just $6 per share as I was puzzled behind the reasons for the failed offering at the time.

The company sold 6 million shares at the time, far below the midpoint of the preliminary offering range of $10 per share, as the resulting $150 million valuation (even lower if we factor in net cash) resulted in Ambarella being recognized as truly a microcap.

That valuation was very reasonable for a business with some $100 million in sales and earnings of nearly $10 million, posted at the time. These revenues were generated from human viewing applications requiring low-power and high-video resolution processing for consumer and security markets.

Roller-Coaster Ride

Since the offering in 2012, shares quickly rallied in a huge manner as they hit the $100 mark in 2015, resulting in a 15x bagger in just around three years time. What followed have been years of stagnation, with shares trading around the $50 mark for a long time, actually a long way into 2020.

Fast forwarding to early 2020 the company posted its fiscal year 2020 results early in that calendar year, just when the company was experiencing the outbreak from the pandemic, like the rest of the world. Full year sales were flattish at $229 million, more than double the 2012 run rate.

That was about the good news as the company posted a GAAP operating loss of $50 million that year as dilution increased the share count to 33 million shares. With the equity valuation having risen to $1.6 billion at $50 per share, operating assets were valued at around $1.3 billion, as valuations have risen from around 1 times sales for a profitable business in 2012 to roughly 6 times sales for an unprofitable business in 2020!

That conclusion, that of reduced appeal is a bit too shortsighted as Ambarella has been transforming the business in the meantime, with costs being recognized first. The company has invested heavily into becoming an artificial intelligence semiconductor play, investing large sums to develop a neural network, a long-term investment which comes at high upfront costs.

Strong Performance

Fast forwarding to early 2021, that is March of the year, shares had rallied further, trading again at $100 per share. Around this time the company posted its 2021 results (really coinciding with the calendar year of 2020) as revenues fell modestly to $223 million, but were up again year-over-year in the second half of the year.

That was about the good news as GAAP operating losses of $50 million rose further to $61 million, driven by stock-based compensation costs, as valuations only became more expensive as investors were awaiting real clues about future growth thanks to the R&D push.

This operating momentum was really visible in 2021 with first quarter 2022 sales up 28% to $70.1 million, as second quarter sales were up 58% to $79.3 million, as reported in August. This momentum was picked up by investors as in October, Ambarella furthermore announced the $307 million acquisition of Oculii Corp. Oculii is an adaptive AI software developer, a highly strategic deal with likely little upfront benefits, as no revenue contribution was announced.

Late November, the company posted third quarter sales of $92.2 million, up 64% on the year before as this momentum pushed shares upto levels around the $200 mark at the time. Very promising is that third quarter operating performance came in around the break-even mark, a strong testament of operating leverage. With revenues trending at $370 million a year, the 39 million shares were awarded a near $8 billion valuation, with much of the net cash position depleted by the Oculii deal.

Back To Earth

Amidst the pullback in technology, IPO and semiconductor names, Ambarella has seen a violent retreat in the share price, now trading at $91 per share. Fourth quarter sales were posted in February, with revenues up 45% to $90.2 million, which marks a small sequential decline as a $12 million operating loss was posted on the back of sequential revenue declines as well on the back of the deal for Oculii.

The 37 million shares outstanding now value equity at $3.4 billion, or just below $3.3 billion if we factor in net cash, reducing the valuation to roughly 10 times sales again. In comparison to early 2020, sales are growing at still a decent clip and break-even numbers are close within sight here.

The issue is that current momentum appears to be cooling down with first quarter sales for the fiscal year 2023 seen at a midpoint of $90 million, basically the same as the fourth quarter results. The company specifically cites the pandemic, geopolitical unrest and supply chain issues behind the cautious guidance, but for the year, the proportion of computer vision revenues should rise from a current 25% (up 3x over the past year) to 45% in the coming year, with likely beneficial margin impact as well.

It is this news which triggered the recent pullback to double-digit territory again, yet while the first quarter outlook looks soft, I think that there is potential for the company in the remainder of the year.

Appeal Lures?

With a current $3.3 billion enterprise valuation, Ambarella trades at less than 10 times sales, while the company is better positioned, as it posts solid growth (except of the most recent quarter) and margins with real potential for real profits again this year.

While the upcoming quarter will be far from easy, I think that the long-term trend, driven by targeted and good R&D investments in recent years, will become a driver behind the shares again as valuations have been reset in a big way now. Hence, it feels as if we are close to hitting the $100 million revenue mark per quarter very soon. This growth and margins could really drive renewed optimism after a current trough.

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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. 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.

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