Cree Inc. (NASDAQ:CREE): Business model shifting; downgrade to Hold - Canccord

Canaccord's Jonathan Dorsheimer is making a very interesting call this morning downgrading Cree Inc. (NASDAQ:CREE) to Hold from Buy with a $32 price target (prev. $38)

- Dorsheimer believes that their thesis of GM expansion from the transition of legacy components to SC3 has largely played out and is reflected in the stock. He thinks Cree’s next phase of growth will be driven by its lighting systems business, not components, which may limit further GM expansion.

Canaccord is downgrading CREE shares on expectations of a slowing rate of GM expansion and lowering their estimates to reflect a more lighting systems-centric business model, which they do not feel is reflected in treet expectations.

With roughly 50% of components comprising SC3 technology, the firm believes the low-hanging fruit of the GM expansion story has been achieved.

They view the CREE story evolving to lighting from components, as evidenced by CREE’s 8-K on December 4, 2012, regarding CEO Chuck Swoboda’s compensation, which is now weighted more toward performance of the lighting segment.

Canaccord sees CREE entering a period of “investment” in order to stimulate the market and capture share, a strategy they agree with over the medium to long term. However, in the near term they feel this may lead to investor frustration, and with a softer demand environment it creates risk to the December and March quarters.

If this was just a seasonality call and a miss on the quarter they would not downgrade the stock, Canaccord notes. However, they see the business model shifting and would prefer a more attractive entry point before recommending the shares during this transition.

Valuation
Canccord is lowering their price target to $32 from $38 previously, based off of a 15x multiple to their newly introduced C2014 EPS estimate plus cash per share. They have lowered their estimates to reflect lower component growth offset slightly by higher lighting systems growth. Within the segments the firm has tempered their expectations for GM expansion in components, but increased slightly GM assumptions for the lighting systems business.

Notablecalls: Dorsheimer seems to be making a solid out-of-consensus call here. Period of "investment" is probably not what the current holders want to see right now. Lighting systems carry a 30% GM vs. 40% for components.

He is the kind of analyst that is not afraid to make big negative calls and this qualifies as one. He whacked GT Advanced Tech (GTAT) back in Sept.

Dorsheimer is lowering his '13 estimates below consensus and price target below current market price to prove his point.

All in all, this looks like a call that could turn even some long-term holders into sellers. Especially after the stocks' recent strong performance.

I'm guessing below $33/share today and toward $30 level in the coming weeks.