What's Wrong With Universal Display?


Theory: Samsung is selling boatloads of high-end Galaxy S3 smartphones, therefore OLED technologist Universal Display (NAS: PANL) should report a strong quarter.

Reality: Universal was banking on a couple of new revenue streams that failed to materialize in the third quarter. The results look terrible any way you slice 'em -- quarter to quarter, year over year, versus Street estimates, or against management guidance.

Consequence: Shares plunged as much as 33% in after-hours trading. Universal Display hasn't seen these prices since September 2010.

So what's a Fool to do? Is Universal's business model falling to pieces? Or are we looking at a mere speed bump on the way to greater things?

A quick snapshot
First, let's look at the numbers. The company recorded a $0.12 net loss per share on sales of $12.5 million. That's down from earnings of $0.12 per share and $21.8 million in revenue a year ago. Last quarter, sales were a cool $30 million and EPS came in at $0.23 per share. It's worth noting that both the year-ago and quarter-ago top lines were boosted by royalty checks that don't appear in every reporting period.

But management also lowered full-year revenue guidance from roughly $100 million to $81 million. That's terrible news, given that the same guidance was raised last quarter. What's wrong?

In a word: visibility. Universal Display doesn't have much of it.

Last quarter, management expected largest customer Samsung to ramp up orders for green OLED emitters as well as green and red host materials. That would be a significant boost from the existing mix of almost exclusively red emitters and host materials -- Samsung uses competing OLED components for their green and blue pixels.

Moreover, Samsung and LG Display (NYS: LPL) were supposed to start selling thousands of big-screen OLED TV sets. Since one TV screen uses as much OLED material as a hundred smartphone screens or more, the expected 50,000 units in 2012 would translate into very large checks written to Universal Display.

So, based on these supposed market trends, Universal Display doubled down on red and green materials orders to manufacturing partner PPG Industries (NYS: PPG) .

But Samsung and LG changed their plans. It's unclear whether it's the global economy, manufacturing problems, or just calculated strategy shifts, but TV builds and expanded use of Universal Display's OLED components have both been pushed into next year. Independent market researcher DisplaySearch now sees 500 OLED TVs shipping this year, a far cry from its old 50,000 unit target. And Universal Display was left sitting on $9.5 million in unsold inventory, up from just $2.2 million a year ago. Ouch.

Are we there yet?
The company has plenty of balls in the air, but doesn't look likely to catch any of them soon:

  • LG is building a new factory with the capacity to pump out 180,000 55-inch OLED TV screens per month -- but it won't be operational until 2014.

  • AU Optronics (NYS: AUO) , fresh off a rumored design win for Apple's next-generation iPad Mini's retina LCD screens, is sending test panels to smartphone maker HTC. The Android vendor might use AUO's displays in 2013, giving the manufacturer reason to crank up a high-volume production line. No promises, though.

  • Several companies are working on flexible OLED displays, which would unlock a whole new world of possible design choices. But of course, nobody has any solid product plans on the table yet. The same goes for OLED lighting panels, which CEO Steve Abramson calls "a vibrant and dynamic market" that's "still in the early stages of growth." Yep, another long-term payoff with little short-term value.

  • It seems like Samsung is buying the bare minimum of OLED materials stipulated by its multiyear contract with Universal Display. Management comments imply that the Korean giant might even fall short this year -- but that's no biggie because the shortfall can then roll over into 2013's targets and beyond. The OLED expert is hardly twisting the thumbscrews on Samsung, nor will it collect any penalty payments for missed contractual commitments. The Samsung contract is starting to look like a total gentleman's agreement.

What it all boils down to
What's the bottom-line takeaway from all of this?

This stock may look broken today, but the long-term business is doing all right. Patience, young grasshopper.

For short-term investors and day traders, this report was an unmitigated disaster. The recent results were weak, but the next quarter doesn't look any better. Weekly call options and other near-term bets seem like a really bad idea today. Yes, even at these low starting prices -- your best short-term bet would probably be to exploit Universal Display's rampant volatility with strategies like straddles or strangles.

But then, Universal has always required a bit of shareholder patience and long-term vision. It's not like Samsung and LG are canceling orders or product plans -- just moving them back a bit. The final payoff on each of the big bets -- TV, lighting, flexible screens, smartphones not named Samsung, expansion into more layers of the OLED design stack -- remains as large as ever. So if you like to buy low and watch the business develop in unpredictable leaps and bounds, this is your best buy-in window in years. That's the more Foolish approach.

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The article What's Wrong With Universal Display? originally appeared on Fool.com.

Fool contributor Anders Bylund owns shares of Universal Display, but he holds no other position in any company mentioned. Check out Anders' bio and holdings, or follow him on Twitter and Google+. The Motley Fool owns shares of Apple. Motley Fool newsletter services have recommended buying shares of Apple and Universal Display. Motley Fool newsletter services have recommended creating a bull call spread position in Apple. The Motley Fool has a disclosure policy.
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