“New Recommendation Looks a Lot Like Apple in 1997” (Robert Hsu)

Sniffing out a China Strategy tease

By Travis Johnson, Stock Gumshoe, November 2, 2011

Robert Hsu introduces the latest teaser of a stock he’s recommending in his China Strategy service by saying that it “looks a lot like Apple” before that company made its historic stock market run, back when Steve Jobs was re-hired by the company, before the iPod (let alone the iPhone) was introduced.

And of course, as everyone is always seeking out the next Warren Buffett … so they’re also always searching for the next Steve Jobs — and the next company that can generate the 11,761% returns that Hsu says Apple stock has given prescient investors (I haven’t checked, but that mind-boggling number sounds about right — as long as you’re talking about holding the stock for close to 15 years). Here’s a bit of the teaser to get you interested:

“To be sure, I’m not going to be so bold as to tell you that my new recommendation is going to be THAT company, or that its current CEO is on the same level as Steve Jobs. But I am going to say this:

“The company that I’m highly recommending possesses a unique, proprietary 3-in-1 game-changing mobile technology breakthrough that we believe will not only change the smartphone sector in the same way the iPhone did when it was introduced in 2007…

“… but will also deliver the kind of annualized money-doubling returns Apple has handed investors for the past 14 years.”

The argument is that this company’s “3-in-1” mobile phone technology is generating huge sales growth in China and gives them a “have to have” status, which will mean the stock doubles and redoubles every year for, one hopes, decades to come.

The clues about this company pile up a little bit — in addition to this “3-in-1 technology” we learn that they’ve posted 124% revenue growth in a recent quarter, and that the shares have doubled over some undisclosed time period and outperformed Apple itself by 2-to-1 … and that the technology “makes the smartphone in your pocket obsolete.”

And what’s this three in one technology? Here’s how Hsu describes it:

“… the company’s advanced, state-of-the-art 3-in-1 technology allows one phone to possess three numbers that can connect to three different carriers—at one time….

“Instead of your being locked into a long-term contract with AT&T, Verizon, T-Mobile or Sprint, or having to buy a new phone to change carriers, you will have in your hand the ability—the FREEDOM, if you will—to change carriers to grab cheaper call prices and better network coverage with the push of a button—all while retaining your contacts AND without your having to buy a new cellphone!”

But it’s not just this “3-in-one” technology, apparently — Hsu says they’re big in China in other ways …

“The company’s complete line of mobile chipsets dominates the Chinese smartphone markets the same way Apple dominates digital music and tablet computing—with a 56% market share in the fastest-growing mobile phone market in the world.”

And this won’t come as a surprise to veteran Hsu-watchers, who know that he tends to use the same kind of momentum-following strategy as Navellier and Investors Business Daily, but this is not an “unknown or unloved” stock … here’s how he puts it:

“By the way, I’m not the only one here who thinks this company looks a lot like Apple in 1997.

“Wall Street’s top analysts, along with the world’s top 20 institutional and mutual fund holders do too, with Wall Street’s top 2 analysts raising their earning expectations in the last 30 days… while the insiders together have bought millions of shares worth more than $100 million in the run-up to earnings.”

So who is it? Well, the propane truck arrived and electricity is back on here on Gumshoe Mountain, so I can finally get the Thinkolator revved up at full power … feed in those clues, and we can tell you that this is … Spreadtrum Communications (SPRD — click here for a free trend analysis from Marketclub, one of my advertising partners … hint: they’re peeing their pants in excitement at the moment).

Which has been teased before — interestingly enough, it was pitched pretty heavily with a similar “3-in-one” pitch from Louis Navellier last Winter (Navellier shares a publisher with Hsu, perhaps they were chatting at the water cooler). Back then the stock had made a huge run and was sitting at around $20 after tripling during the previous year, since then it has been less consistent, climbing a bit further and then falling down to $12 or so when it was targeted by China stock short-seller Muddy Waters in late June (it actually dipped to $8+ the day Muddy Waters publicized their analysis, but never closed that low).

Since then, thanks to a pretty strong response from the company that Street analysts seemed to support, some insider buying, and an earnings report that investors liked, the shares have recovered nicely and seem to have “broken out” a bit in recent weeks, with the shares closing near a new 52-week high yesterday.

Spreadtrum does indeed have a more than 50% market share in at least some segments of Chinese mobile chips — they’re a fabless semiconductor company (“fabless” means they don’t have their own factories, they just design and sell the chips and outsource manufacturing to the major chip fabrication companies … most of the higher margin chip companies, especially smaller ones, are fabless).

This is a billion-dollar company, not huge but certainly of a decent size — they’re priced at a discount to their growth rate like many Chinese companies are, and certainly at a substantial discount to the huge mobile chip companies like Qualcomm (QCOM) or Arm Holdings (ARMH), though they’re not necessarily particularly comparable to those bigger firms. The trailing PE is right around 13, the forward PE is about 11, and analysts expect that they’ll continue to grow earnings at 17% per year (which is slower than their average growth over the past few years of about 50%, and way, way lower than the most recent quarter’s earnings growth rate of 192%).

And yes, part of their “claim to fame” is the multi-SIM phone chip — enabling customers to have SIMs from several providers or for several accounts in their phone at once, and therefore to either play them off against each other for better rates or simply to have three different phone numbers for different parts of your life (or different lives, I suppose, for those who aren’t exhausted enough by having one life and one family). My impression is that they have a strong position in “feature phones,” which is a euphemism for “cheap phones” that your teenager wouldn’t be caught dead with, so I don’t know what their position is in actual “smart” phones.

This is a feature that’s not going to take off very quickly in US smartphones, since the US cell phone market is controlled by the service providers who subsidize the phones (Verizon, Sprint, etc.) and they, in return for the low price on the fancy phone, lock you in for a couple years of prepaid service and have no incentive to make it possible for you to comparison shop carriers by giving you a multi-SIM capability. In many other countries the economic relationship is different, with phone buyers paying the retail price and picking and choosing SIM cards to use different networks, so the convenience of a multi-SIM chip in a phone is undoubtedly more appealing elsewhere.

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That’s just my take on the broader market for these phones — the market is very competitive, but SPRD looks like they have very decent profit margins (20%ish — not as good as giant Qualcomm, but still good) and they appear to be growing nicely. It’s probably worth reading through the Muddy Waters critique and the company’s response just to make sure you understand what the hullabaloo was about, but the company seems to have bounced back far better than most of the companies that have been targeted by Chinese short-sellers. They release earnings late next week, so we’ll soon know if they’re going to post another big growth quarter.

Current estimate is for 66 cents in earnings per share, and they’ve “surprised” analysts by a few cents (in the right direction) for each of the past four quarters — though it’s worth noting that this year’s growth, analysts think, ain’t going to continue at the same torrid pace, sales growth is coming in at something like 80% for 2011, but they think it will be only 15% next year, and that obviously trickles down to the bottom line. The stock is still not expensive on the face of it, but it’s probably better to think of them as the 15% grower that analysts expect than as the 200% grower they’ve been in recent quarters.

As to whether it’s “like Apple in 1997,” well, I can barely remember that year — I had an Apple computer, but I felt like the only one, and the widespread assumption was that Apple was going to go out of business, Steve Jobs or no … it was still a few years before the “company saving” iPod was released and the shares were down at a split-adjusted $4 a share or so and there was little optimism — Steve Jobs, after all, was not a jolly hero back then as he rejoined the company, but an angry returning founder who came back, the perception was, to cut projects. His NeXT computer company, which Apple bought to bring him back in, was a near total commercial failure in part because of what we now love about Jobs, his price-ignoring focus on design and aesthetics … though it also was, in retrospect, a key technology acquisition for their contribution to Apple’s new operating systems.

I guess the comparison is that Apple was crushed at the time because of weak products and investor disinterest, but was quietly starting to build a foundation for huge new product growth in the iPod, new Macs, and iPhone … and Spreadtrum is quietly building leadership in multi-SIM phones but was crushed by the China short-selling machinists who like to cry “fraud.” Given the limited nature of Spreadtrum’s business that’s an odd comparison, but perhaps the multi-SIM phones will be bigger than I imagine, and Spreadtrum will remain a leader in the development of chips for those phones … I dunno.

Intersted in SPRD? Think the possible Chinese “soft landing” means it’s time to start paying attention to Robert Hsu again? Let us know with a comment below. We have many subscriber reviews of China Strategy that you can see in the column to the right, but a lot of them are from past boom and bust China periods in recent years … if you’ve subscribed you can click here to review it for your fellow investors. Thanks!

Full disclosure: I own shares of Apple and of Berkshire Hathaway, but have no positions in other stocks mentioned above and will not trade in any stock covered for at least three days.