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Here's Why You Should Dump Ambarella From Your Portfolio

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If you are still holding on to shares of Ambarella Inc. (AMBA - Free Report) in your portfolio, it is time you dump those as chances of favorable returns in the near term appear bleak.

Similar to wise buying decisions, offloading certain underperformers at the right time helps maximize portfolio returns. Ambarella has witnessed a significant price decline in the year-to-date period, and negative earnings estimate revisions for the current quarter and the fiscal indicate bleaks prospects for the company in near term. Further, the company’s Zacks Rank #4 (Sell) only reflects its innate weakness.

Ambarella manufactures video compression and image processing technology used in a variety of small cameras, computers and mobile phones. The company has a diversified product line, offering devices which fit into five main markets — Security Cameras, Automotive Cameras, Sports & Flying Cameras, Wearable Cameras, and Broadcast Infrastructure Systems.

Shares of this chip maker have plunged approximately 12.5% since its last earnings results. In fact, the stock has been among the worst performers in the industry to which it belongs to in the year-to-date period. During the said period, Ambarella’s shares have lost 26.4%, while the industry has gained 5.1%.



The latest downtrend is mainly due to the company’s recently-issued disappointing outlook for the second quarter of fiscal 2019, wherein it projects a decline in revenues, contraction in gross margin and rise in operating expenses.

Let’s take a look at factors behind this dismal projection.

Loss of a Key Customer

Ambarella, most noted for its sports camera technology, has almost lost its one of the company’s largest customer — GoPro (GPRO - Free Report) . The company produces a video-processing chip, which is a main component in the popular brand of GoPro action cameras. GoPro produces water resistant, wearable, high-definition cameras which produce unique first-person videos, and have been taking the Internet by storm for the last few years.

However, since fiscal 2018, GoPro has been fulfilling its majority of requirements from one of Ambarella’s competitors. This is affecting Ambarella’s shipment volumes, resulting in revenue decline throughout fiscal 2018, as well as in the first quarter of the current fiscal. In fiscal 2018, GoPro’s contribution to total revenues went down to 12.8% from the 24.3% reported at the end of fiscal 2017. The company expects that revenues from the sales of chips to GoPro will continue declining throughout fiscal 2019.

Drone Market Weakens

Prevailing weakness in the drone market has been denting this chip maker’s revenues. The company witnessed four back-to-back quarters of decline in this market.

Moreover, Ambarella projects softness in the drone market to persist throughout fiscal 2019. Per the company, drone manufacturers have been witnessing a tough time, and its major clients are now shifting focus on building low-priced drones, thereby impacting its top-line performance.

Qualcomm May Heighten Competition

The company is facing a new challenge in the form of Qualcomm Incorporated (QCOM - Free Report) . It should be noted that Qualcomm is also looking to expand its product portfolio in order to cope with its declining share in the mobile chipset market.

It is set to acquire NXP Semiconductors (NXPI - Free Report) , which is the world’s biggest automotive chipmaker. This acquisition is likely to help Qualcomm in expanding its foothold in new markets such as wearables, automotive, drones, and other Internet of Things devices. The entry of Qualcomm is a real threat as Ambarella may find it difficult to win new deals and might, as well, lose some of its customers.

Bottom Line

The aforementioned challenges the company is facing right now do not seem to fade away anytime sooner. Furthermore, the stock’s valuation looks significantly stretched from a P/E perspective. The company currently trades at 55.4x based on its forward earnings estimate, massively higher than the industry’s average of 13.3. This limits its upside potential for the near term.

Looking at the prevailing challenges, along with higher forward valuation multiple and Zacks sell rating, it is wise to stay away from investing in Ambarella stock right now.

A buy-rated stock in the same space is Mellanox Technologies, Ltd. (MLNX - Free Report) , which sports a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Long-term expected earnings growth rate for Mellanox is 15%.

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