We haven’t looked into a Motley Fool teaser pitch for a while, so let’s all settle down in our desks and get out our pencils — we’ve got a long one to look at today, and it’s all about the kind of “rule breaking” company and technology that David Gardner, founding Fool brother from their early days as an AOL chat board, loves with gleamy-eyed excitement.
In fact, the ad is for Gardner’s growth-focused newsletter, Rule Breakers — this used to be one of the Fool’s more expensive newsletters, and they still say that the “list price” is $299 a year, but it’s usually advertised these days in the $49-99 range. The Motley Fool has been cutting the prices on all their newsletters in recent years to get people on board, and to increase the size of the audience they can “funnel” into their very expensive “more guidance” services that they pitch with limited-time openings to new members like Supernova, Motley Fool One, or Million Dollar Portfolio and which typically cost thousands of dollars.
Rule Breakers is based on the criteria that Gardner developed over the years for picking hot emerging growth stocks, like Amazon and AOL in decades past (and clinging to them through sometimes very volatile trading)… the criteria include that the company must shake up the way something is done, it must be seen by Wall Street conventional analysts as “overvalued”, it must be a first-mover in a new business, etc. When it works, it works big — when it fails, it fails big. Your success comes, over time, because your 10,000% gainers dramatically outpace the substantial number of 50-90% losers that seem inextricably linked to this kind of growth investing… most complaints about this system that I hear are that it’s tough to get the kinds of returns they boast about — even if they’re real — because you can’t buy 25 stocks a year and hold them all with patience to wait for the winners to emerge, and if the one you decided not to buy was Marvel, or AOL, or Amazon, or Priceline, or Netflix… well, the overall returns are a lot worse without a few of the huge winners.
And from past Rule Breakers teaser ads we’ve certainly seen both profitable ideas and stinkers: to note just a few — multi-year winners like Cracker Barrel (CBRL) and American Tower (AMT)) and duds (Solazyme (SZYM) and American Public Education (APEI). So which one is being pitched today?
Well, the big picture is all about the growing technology interconnectedness, and how that’s going to make the Apple Watch and similar wearables go from being “Meh, don’t know why I’d need it” gadgets to “Must have” items. Here’s a taste of the ad for you:
“Where’s the REAL Apple Watch?
“Sitting on my wrist is Apple’s newest blockbuster – the Apple Watch.
“Wall Streets latest predictions are that Apple could sell close to 36 million of its smartwatches over the next 12 months with close to 3 million having sold in its first 2 months of release alone.
“But if you’re like me you may be wondering:
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“A Business Insider poll suggest that 51% of people polled agree… they just don’t see the point”
But then the spiel tells us that the initial design of the Apple Watch was just the first step…
“… the watch Apple released this past April was NOT the design Steve Jobs imagined.
“In fact 1 month before he passed away he filed for a patent on the watch design he REALLY wanted Apple to create, a document that I found hiding in plain sight at the United States Patent Office.
“Keep reading and I will reveal how this document gives savvy investors a glimpse into Apple Watch’s future And I will be breaking apart the prototype for this watch later in this video… cutting it open to reveal the small tiny component that all investors will want to add to their portfolio today…”
That Apple patent has come up several times before in Motley Fool ads and elsewhere, it’s one from a few years ago that patents a possible iteration of a smart watch-type device. I wouldn’t get too hung up on individual patents for these kinds of things, Apple patents are followed pretty closely by lots of people, but there are also huge numbers of them and a patent is by no means an indication that the company is definitely going to develop something based specifically on the patent… it’s just a way of staking out some ground in case the idea becomes important to one of their final products. Apple was granted more than 2,000 patents just last year, and most of them will, no doubt, never have any significance to major products or services. The patent got a little press back in 2013 (like with this note from Engadget or this much more detailed one from Patently Apple), but that was because people were speculating wildly about whether Apple was really going to produce a watch, and about what it might look like. It does not mean that Apple’s next watch will be a one-piece flexible plastic LED that “snaps” into place like snap bracelets — and, of course, though that’s a big part of the meat of that specific patent, it has little to nothing to do with the functionality the Fool is talking about for the next generation of wearables.
The ad then goes on to say that a simple bracelet already in existence “holds the key” for understanding the next stage — and that Steve Jobs was a big believer in the company behind this bracelet…
“Steve Jobs believed in the technology so much that he actually owned more shares of the company that utilizes it than he did Apple shares….. over 130 million shares or 7.69% of the company to be exact.”
That’s Disney (DIS), of course — Steve Jobs didn’t buy Disney because of their Magic Band technology, he ended up owning a huge chunk of DIS because he sold Pixar, which he owned about half of, to Disney and got those shares in return. That’s why the trust controlled by Steve’s widow, Laurene Powell Jobs, owns a bigger chunk of Disney than anyone else (she is also, according to Forbes, now the wealthiest woman in the country who isn’t also a Mars or Walton heir).
So there is one untruth in that part of the ad, if it’s Jobs’ imprimatur that makes a difference to you — the pitch says that
“Steve Jobs saw the magic of Disney and bought over 130 million shares of Disney stock.”
But that’s not what he did, of course — he built a magical company in Pixar, scared the pants off of Disney because of Disney’s inability to develop the next generation of great animated classics without Pixar, and sold his film company to Disney for 130+ million DIS shares (about $7.5 billion)… and he also sat on Disney’s board, partly because of his huge stake in the company and partly because Disney at the time (this was nine years ago) was struggling with the impact of technology on their entertainment distribution businesses and needed his insight.
What is the Magic Band, you say? It’s basically Disney’s “wearable” ticketing and payment device. It’s a bracelet that they use at their theme parks, and most visitors get them before they even arrive at the park and can use them to “swipe” into the shuttle bus at the airport, use it as a room key for their (Disney) hotel, use it to charge items at the park so it doesn’t feel like you’re spending real money, and use it as your ticket to enter the park and your “fast pass” for scheduling your “line skip” access to some rides.
It’s amazing, frankly. And it works really well, at least in my experience (one trip to Disney World with the little gumshoes). And, to be honest, it does give you some look around the corner into what a possible future for wearables could be, with further adoption of Mobile Payments and the like — you’ve probably seen and maybe used the many terminals that accept Samsung Pay or Apple Pay using watches, and the Apple Watch does have apps that work as room keys for some select hotels… but the world, of course, is not nearly so uniform and controllable as is Disney World, so you can’t leave your wallet and keys at home very often.
Yet, at least. Interconnectedness is obviously still growing as a theme in the world, as are wearable devices that talk to each other and to the Internet and have the potential to make life more convenient as we get further out along the adoption curve. And that’s largely the point made by the Fool pitch: That as the next version of the Apple Watch, and similar devices, get more and more capable and useful, more people will use them, and the companies that make the key guts of these devices will make you filthy, stinkin’ rich.
But which company is that? The Fool teased us about the Nike Fuelband (kind of like a Fitbit) using language very similar to this a while back, saying that the fact that Tim Cook was wearing one in a presentation was a “tell” that the Apple Watch was coming and would use motion sensor technology, and that it would almost certainly use a chip from a company they were teasing… back then, it was a pitch for Invensense (INVN), which I also owned and wrote about for a while (since sold), and Invensense did get more “design wins” in the phone and watch for their gyroscopes and motion sensors… but it turned out to not be such a great deal for them. Apple for a big chip maker can be kind of like Wal-Mart for a big toymaker — you want to be their supplier, but you also kinda know that unless you do something no one else can do, and unless you have the power to walk away from a deal, you’re going to get screwed when Apple or Walmart buckles down on costs and uses their huge buying power to push your margins lower.
That’s essentially what happened with INVN, as I understand the situation. They sold a lot of chips for phones and watches but were extremely dependent on just two huge customers, Apple and Samsung, and the margins on their new design wins with those customers were lower than investors had hoped and the volume didn’t do enough to make up for the falling margins so the stock fell for a while and has more recently been stagnating. It turned out that having an (arguable) technological lead over the many competitors who also make (maybe slightly larger or slightly less efficient) motion sensor chips wasn’t enough, particularly when some of those competitors, like Bosch and ST Microelectronics and Microchip Technologies, are much bigger and more diversified.
But Invensense is not the stock being teased this time around — and their chips are really just for motion sensing (compass, gyroscope, altimeter) — not for actually communicating your location and preferences to the world around you. the Fool goes on to get a bit more specific with their hintification…
“What I wanted to talk with you about today is the technology that makes the MagicBand possible and how you as an investor can position yourself to profit from the primary company that makes it a reality and the true vision of an Apple Watch of the future the one which I believe Steve Jobs intended.
“This type of technology is like riding a roller coaster that never comes down and offers the potential for profits that dreams are made from.
“You see Disney is just the testing ground for technologies that could soon create the ultimate in a personalized world… imagine the power of the MagicBand technology imbedded in an Apple Watch where your personal preferences open up a world of conveniences like: starting your car with just a wave of your wrist, or opening your front door with the wave of your hand or walking into your house and the thermostat automatically adjusts the temperature to your exact liking.”
That’s a silly image, of course, I’ve been on the roller coasters that never come down. They also don’t really go up. It’s like riding the roller coasters at the county fair, the kind that can be packed into the back of a semi trailer and moved from town to town to amuse the next batch of six-year-olds. It does what it says it will do, but it doesn’t launch you to the stratosphere no matter how many times you ride it.
Here’s the best sum-up of the “vision” from the ad:
“The true winner in this post-smartphone market is going to be the company who is first to market with a smartwatch or wearable that makes these tasks seamless, effortless and personal…. Where everyday is like being in Disney Land where the world is personalized.
“Now as I am sure you have already guessed the only way that this is possible is if ALL of our devices are connected… including our smartwatches and wearbles. Where through the interconnectedness of these devices our lives become easier, effortless and our devices become invisible.
“And why Apple, Google, Samsung, Sony, Microsoft, and our old friends at Intel are all slamming on the accelerator pedal and shoveling billions of dollars into research and development to make the dream of a personalized world possible.”
Then we get to the part that seems a little odd to me:
“…there is a little hiccup in the magic right now… remember that pickle I told you Tim Cook is in right now? Well he needs to get his hands on the tiny device that makes the MagicBand… well…. magic. So does Google, Samsung, Nokia or any other wearables or smartwatch manufactures.
“They will all need to incorporate this functionality for their devices to connect to the larger world. Can you guess what manufacture makes that technology?
“David Gardner’s already made his guess. And I bet he’s right. After all, he’s been breaking the rules of Wall Street for years.”
What’s odd about that? Well, I don’t know that the Magic Band actually has any functionality that’s not already in lots of wearables — it basically serves as both a short-range and longer-range communicator of basic data, the most visible stuff is the NFC chip that identifies you and allows you to pass your Band over a sensor to enter a ride or hotel room or pay for something but perhaps the more interesting stuff is the longer-range bluetooth or other sensors that track you inside the park and can locate you and know who and where you are — whether it’s to personalize a ride or a sales pitch or find you in the restaurant so your server can bring your order to the right table. Those chips are already in the Apple Watch in some form, though the long-range sensor may be weaker (I don’t know) because, so far, it’s just designed to connect to your phone, which does the real work.
But anyway, we’re now getting to the heart of the ad — the secret company David Gardner loves! What is it?!
“Apple is aiming to include even greater flexibility in the Apple Watch 2 possibly including what industry insiders are calling “tether-less” operation developing capabilities into the Apple Watch so that it no longer needs to rely on your iPhone… in short untethering your Apple Watch from your iPhone.
“And recent evidence reveals that Apple and Google are already working with one specific company to make that happen…. The same company that David is on record recommending nearly 4 years ago and yes is in the MagicBand.
“And boy has he been right. Investors who listened to David when he first said ‘buy this stock,’ have more than tripled their money.”
And then the last little bit of sales pitch:
“While many analysts are drooling over the cash Apple is raking in on these new products, they are missing the real story – which is the chance for investors to potentially profit even more by buying shares of this company that’s less than 1/30th the size of Apple.
“That’s why I want to hurry up at this point… and show you a special opportunity that The Motley Fool has never extended to anyone before.
“This offer allows you to request your very own copy of our new investor action guide:
“1 Stock for the ‘Personalized’ Computing Era“
So what is it? Well, now you might realize why today was the day I wanted to look at this teaser pitch — that “One Stock for the ‘Personalized Computing Era” they’re teasing is, sez the Thinkolator, NXP Semiconductor (NXPI).
Which has indeed been a David Gardner favorite for several years — though back when Rule Breakers was first teasing it in ads in the Spring of 2011, the appeal was primarily NXPI’s lead in the NFC chips that would enable the “next great payment revolution” that everyone was expecting (and that has been much, much slower to come to a slow boil than the pundits thought). There have been ups and downs in the years since, but if you had bought then in the $20s you would certainly have had a chance at a triple (200%+ gains).
Particularly if you sold yesterday. Today, the stock is taking a shocking drop of near-20% because of what has been perceived as a weak quarterly earnings report — shares closed yesterday at $90 and as I write now they’re in the low $70s and within a whisker of setting a new low for the year. And beaten-down Invensense, just to complete that story, also reported today and surprised in the other direction, and INVN shares are up 10%. Just when you thought you could use a few generalizations to describe what’s happening in the chip market.
So what’s going on with NXPI? Well, the fall is mostly because of soft guidance — they’re telling the Street to expect less than the Street wanted. NXPI reported revenues for the third quarter that were lower than their own guidance, and earnings that beat expectations for the quarter, with earnings growth of about 16% over the same quarter last year. That was OK, if not delightful (it’s worrisome to see companies falter on revenues, since strong sales growth is what ultimately generates great earnings growth — there’s only so much you can do by cutting costs or increasing efficiency), largely because it looks like NXPI has not been trading like just a semiconductor company that can make a good and steady profit, instead it’s been trading, with a PE often over 50 this past year according to the charts I’ve been seeing, like a growth darling that can dominate its segments of the industry and show huge growth in future years. That’s reinforced to some degree by the fact that NXPI got a high score of 95 from Investors Business Daily until today, and was an “A” rated stock by Navellier a few months ago (as of September it was “B,” presumably that will drop further following today’s release).
Which means, when the earnings result came out and the company said they’re seeing sighs of slack demand at a lot of their customers, and they’re being conservative and guiding down for next quarter with a prediction that sales might FALL by 15%, there were probably a lot of growth and momentum investors who sold their shares really, really quickly.
High expectations are fun, and they can bring a stock to tremendous heights (at the high this year, NXPI was at $110 — so it was sitting on five-year gains of 225% despite the fact that their earnings per share actually fell over those five years, and their revenues only grew by about 25%.
So maybe NXPI has been a “future momentum” story, built both on the idea of NFC chips being in everything and NFC payments and tracking being a huge part of the “Internet of Things” as everything (including our wristbands and watches) becomes more interconnected, and on the idea that their deal this year to buy Freescale Semiconductor, which investors loved when it was announced in March, will give them better economies of scale and a stronger presence in the key automotive chip market (automotive is NXP’s other large business). And now that momentum is getting washed out of the system — does it look appealing for a buy here, now that they’ve given up the gains for this year?
Well, the stock still doesn’t look cheap — if you glance at your brokerage screen or at Yahoo Finance you’ll see that it’s now trading at about 40X trailing earnings. That’s a big PE for a company that’s not been growing much. The quarterly and annual earnings estimates from analysts, though, and the “as reported” numbers, are much better than that for some reason — the trailing earnings per share using those numbers is about $5.70, so that would indicate a trailing PE of about 13… and though estimates may come down now that they’ve issued such soft guidance, the forward estimate is for earnings of $5.93 for 2016, which makes the forward PE a much more reasonable 12, which is accompanied by analyst expectations for 20%+ annual earnings growth over the next five years. So what’s the story?
Well, the crazy-high PE is based on GAAP accounting, the standard that everyone is supposed to live by. The adjustments to GAAP that get them to the positive (and pretty decent) trailing earnings are many, but some of the biggest ones for NXPI seem to be caused by currency adjustments — changes to the value of their debt — which caused GAAP losses, particularly in the first quarter this year. I can swallow that, though there’s a lot of adjusting going on (not all that unusual, particularly at tech companies) and it’s worth keeping in mind that GAAP exists for a reason, to make people account for things they’d rather not account for. Sometimes those things really aren’t core to the business, like fluctuations in the carrying value of non-cash items, sometimes they’re real expenses or deferred expenses. I’m no forensic accountant and don’t know if NXPI does this any worse or better than the other big chip companies, but you do see more or less the same thing with the other big chip makers whose financials I browsed through today (STM and the company NXPI is merging with, Freescale (FSL)).
Does that mean we can buy it here? Well, it’s hard to see a huge rush to get into the stock — they are going to be a key global supplier of the advanced chips that will track us all for our robot overlords, one imagines, and they have a strong position in secure ID chips, NFC chips used for touchless payments, and more advanced mixed signal chips that lots of Internet of Things gadgets will rely on… but they’re also expecting really bad sales next quarter, they seem to be quite sensitive to little twitches in the global economy, and they’ve got a huge merger with a heavily-indebted Freescale that will close next quarter and take a while to gel, so for a while it’s likely that the numbers will continue to look really bad (and, most likely, very confusing for at least a couple quarters). Is all of that priced in with the gradual decline in recent months (mostly on growth fears, I think), and with the collapse in the shares today?
For that you have to guess. My guess is that it’s not all priced in, and that there could be more weakness as we work through the merger — but the stock is getting much more reasonable here, and we’re no longer seeing the huge pie-in-the-sky predictions for the combined NXPI/FSL (like one analyst’s $195/share back in June), so perhaps it’s worth taking the time to look it over these days, and maybe even nibble on the shares if you’re so inclined. I’m not in a rush, personally — if you do think the stock is bottoming out, the big crush today has made the put options quite a bit more expensive so you could effectively promise to buy it 10% cheaper for about two months and get paid pretty well for that.
I don’t want to give the impression that I’m recommending an options trade on NXPI, it just came to mind as a possibility if you’re interested in NXPI but think it might fall a couple more dollars per share (but not ten or twenty more dollars) — here’s that scenario, just FYI:
Of course, selling puts against a company that just disappointed and is likely to get a bunch of analyst downgrades now is risky — you’d have to really believe that the worst is over, which means you’d have to understand the potential really well, but if you’re willing to buy NXPI at $70 you could, instead of placing a limit order at $70 or just nibbling on the stock at $73 today because you don’t want to wait in case it bounces back, sell a $70 December Put for about $3 today. That means you’re putting $7000 aside for about two months and promising to use it to buy 100 shares of NXPI, and in exchange for doing that you get a cash payment of about $300, roughly a 4.2% return on cash in two months. The worst outcome is that the stock falls to $50 or something worse in the next two months and you’re still on the hook to buy it for $70 and have a huge paper loss and own NXPI shares, which is why you need to be really confident that you’re comfortable paying $70 regardless of what the market thinks on any given day.
That’s just one way to think about beaten-down stocks, though — I did that with Disney as I was greedily hoping for a bit of a better price, and I should have just bought the actual stock instead… but NXPI is not Disney, of course. NXPI does have some upcoming catalysts, primarily the Freescale merger, and it’s going to be a gamble either way.
The story for NXP and Freescale is interesting, in part because the two companies have a lot of similar history (both were owned by much bigger electronics firms, NXPI by Philips and Freescale by Motorola… both were taken over in leveraged buyouts by private equity, loaded up with debt, then taken public again, and both have been growing by fits and starts and paying down debt as newly public companies over the past five or six years), and I’m honestly tempted by NXPI here, as I’ve been tempted by them a couple times in the past, but there are a lot of moving parts and I’ve not ever been able to convince myself to buy the shares. The big picture is compelling… but there’s also the small, day-to-day picture, and in that picture a drop in auto sales in China, or depressed sales of gadgets or phones in China or elsewhere, puts a real crimp on margins and volumes — so if you are a strong believer in that big picture, you might have to wait patiently through some ugly bumps… these roller coasters do go both up and down
That’s just me though — it’s your money, so what do you think? Interested in NXPI now that it’s come down from its lofty valuation as we’re on the cusp of a possibly very bad quarter to end 2015? Expect great synergies over the next couple years from their big merger, which will create one of the biggest semiconductor companies in the world with a strong focus and market share in automotive, near field secure communication, and the Internet of Things connectivity in general? Let us know with a comment below.
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