IRBT justifies my pessimism
A bad quarter and a disappointing guidance from IRBT. Revenue for 2007 could be 10% less that the analysts expected. Investors should ask themselves an unpleasant question: if the revenue is not growing at 30% or so, and if the percentage of revenue percolating to the bottom line is shrinking, not growing, then why does IRBT cost 70 times its trailing earnings?
Here is the table for IRBT:
Quarter: Q1 Q2 Q3 Q4 Total:
Revenue: 38.2 34.6 55.0 61.1 189
Gross profit: 12.2 11.8 23.0 22.8 69.7
SGA: 13.2 10.7 9.4 19.4 52.7
R&D: 2.8 3.8 4.3 6.1 17
Operating -3.8 -2.7 9.2 -2.7 0
OK, here's what we are promised for 2007: revenue 79-83 in the first half, 146-152 in the second. Pretax income: (11-12) in the first half, 14-15 in the second.
So what can we make of it? 79-83 mln fot the next 2 quarters is a lousy guidance, but it's still about 8 mln more than in 2006, and yet the loss is expected to increase by 5 mln. The culprit is the increased R&D. If it stays around $6.1 mln per quarter as opposed to 2.8 mln at the beginning of the year, that just about explains the negative difference.
The small spike in revenue in the second half of the year (30-35 mln more than in the second half of 2006) seems hard to explain until we realize that the poor performance of the first half is due to some tough year-on-year comparisons (large shipments in the beginning of the year exaggerated the actual sell-through). With that in mind, let us say that IRBT still expects to grow revenue by some 20% per year.
Poor quarter earnings is the least of my concerns here. Revenue growth that cannot go above 20% per year is already a disappointment for what is supposed to be a rule breaker, but I could live with that. A more serious issue is competition. As I pointed out earlier, in several months at least one competitor will try to eat IRBT's breakfast. That means gross margin contraction. Or else, it means that IRBT should be working on the new generation of Roomba. I mean, the one that can grip objects blocking its passage, recognize cables, etc. No, sorry, IRBT, I didn't mean a new disk of different color with one extra virtual wall, I'm afraid that won't do. And that, in its turn, means that IRBT would have to keep increasing its R&D spending just to keep its head above water. In other words, scalability is not going to happen any time soon.
But the really interesting question is the new product (not a vacuum, we've been told) which they promise to launch in the second half that should have an immediate effect both on the top line and the bottom line, at least so the story goes.
Color me skeptical, but I don't see any pronounced effect. Let's say, they are going to launch a robomower. Suppose they ship only 100,000 mowers (pretty conservative for a successful new product), and the mower will cost only $200. Now, that's 20 mln extra dollars on the top line! Can you see these 20 mln in the guidance? I don't. I could begin to see them if I were to assume that the function of these mowers or whatever is to pick the slack after Romba sales stop growing. But with this assumption, I would have to reevaluate the business. On the basis of stagnant and essentially profitless Roomba sales, IRBT cannot be valued above $10, and it's hard to see how the mower revenues running at $20 mln per half a year can contribute substantially to that valuation. Or else, assuming that Roomba sales keep growing, I have to make another disappointing conclusion: the "new product" is NOT going to be a product with any consumer appeal to speak about. If it were a walking android, or a laundry-folding robot, or anything of the sort, the guidance would point to a sharp revenue spike in Q4. We also know that such products are unlikely because the only type of motion IRBT can realize in a consumer robot is simple rotational motion. So we know that the new product is based on rotation, is unpopular, and is not a vacuum. What can it be then? The answer: either a robomower, but a robomower expensive enough to be unpopular, or a toy like Roomba Create. The latter version, of course, has one flaw, namely, that the Create already exists (and fails as miserably as it should). My crystal ball predicts an upgraded Create kit - a Create with a payload that will provide extra expansion slots and optional sensors, cameras, speakers, etc.
Unless they deliberately set the plank too low, the guidance allows for only two options: a modest success with the new product AND stalling growth in vacuum sales, or a modest growth in vacuum sales AND a disastrous new product. Which one do you like more?