One of the favorite games of sell side analysts covering the smartphone/mobile device sector is “Guess That Shipment Number”; using various channel checks and supplier interviews to project shipment numbers for phones from leading manufacturers like Apple (Nasdaq:AAPL) and Samsung Electronics (Nasdaq:SSNLF) and go to the buy-side with supposedly proprietary calls. This time it's Samsung's turn, and analyst downgrades tied to flagging sales of the Galaxy S4 have sent the stock down more than 6% in South Korea.
As Samsung Electronics trades only as an unsponsored ADR in the U.S. (and an illiquid one at that), the impact to stocks like Apple, Nokia (NYSE:NOK), and the component suppliers may be the more relevant factor to consider. While it would be very hasty to call these lower shipments (if the stories are true) the end of Samsung's smartphone boom, it's a good reminder that over-booking and product launch cycles introduce a lot of uncertainty into this sector.
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A Big Downward Revision In Expectations
While there were multiple analyst downgrades of Samsung tied to lower shipment expectations, a JPMorgan report has garnered the most attention. Analyst JJ Park has cut S4 shipment expectations by 25% for the year, with shipments of the older GS3 declining by half in the second quarter.
Park has cited multiple factors in these revisions, including both increasing competition from lower-priced, lower-featured phones and Samsung's own decision to overbook so as to ensure adequate supplies of critical components. It's also worth noting that demand appears to be weaker in the EU and South Korea, while U.S. demand has remained fairly good.
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If It Rolls Downhill, Who Gets Caught Up In It?
If these lower shipments do materialize, a host of well-known components companies could see some pressure to numbers and analyst expectations.
Universal Display (Nasdaq:PANL) produces OLED panels for the GS4, as it has for prior versions of the Galaxy family. With Samsung (Samsung Display, to be exact) making up about two-thirds of Universal Display sales in the last fiscal year, I'd argue that any noise or worry about Samsung shipment levels could have a disproportionate impact to expectations.
The Samsung GS4 also uses components from Qualcomm (Nasdaq:QCOM), Broadcom (Nasdaq:BRCM), and Skyworks (Nasdaq:SWKS). For Qualcomm, it's hard to get too worked up about any one particular model or product cycle, as the company's overall share in areas like baseband and strong licensing revenue streams make it more of a general play on smartphone demand.
Investors have previously worried about Samsung designing Broadcom out of future phones, and the company has a good mix of vendor and model exposures, including many other Samsung models as well as devices from Google (Nasdaq:GOOG), Apple, and other vendors in South Korea and China. Even so, such a significant reduction in S4 orders/shipments could make it harder for Broadcom to deliver earnings upside in the near future.
Skyworks generated about 17% of its revenue from Samsung in its fiscal year ending in September 2012, but Skyworks also has meaningful exposure to Apple and the shares have been pretty weak for the past nine months.
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Predictable Unpredictability Is The New Norm
Investors have already been digesting the likelihood of weakening high-end smartphones for a little while now, so while there could be some company-specific turbulence in the wake of these Samsung downgrades, I don't think this is really a stunning development.
What it does suggest, though, is that the business of supplying phone designers has gotten more challenging and less predictable. Designers are more willing to over-commit to higher shipment levels to ensure that they have the components they need to support successful launches and then cut those orders back sharply to better fit the subsequent demands. It's also true that particular product cycles move stocks more than in the past, as “who's in/who's out” decisions shift sentiment as companies book the revenue and profits of the last cycle.
I'm still generally bullish on the major players like Broadcom and Qualcomm, though the discounts to fair value do seem to reflect Wall Street's greater unease with the cycle-to-cycle volatility and potential for slowing high-end demand. At the same time, if Samsung is in fact losing share in Asia, particularly in lower-feature phones, investors may want to check out Lenovo (Nasdaq:LNVGY) as a potential share gainer in the region.
At the time of writing, Stephen D. Simpson did not own any shares in any company mentioned in this article.