A Shares’ Potential Surge Following Its October 1st Split Event
A Shares’ Potential Surge Following Its October 1st Split Event
Split decisions are generally positive signs for companies, as they typically indicate that the price of individual shares has reached a high point. Super Micro Computer (SMCI −3.64%) is preparing for a 10-for-1 split, set to take effect on October 1. Despite this upcoming event, the company has encountered some difficulties in the interim, leading to a 32% decrease in its stock price.
There are various explanations for this slide, but none of them constitute compelling reasons for eschewing the stock as a long-term investment opportunity, despite the inherent risk involved.
High Appetite for Super Micro Computer's Products
Super Micro Computer produces hardware components for data centers and builds complete servers. This market niche has thrived in recent years, and it's been experiencing a remarkable growth spurt lately due to the surge in artificial intelligence (AI) usage. As a result, businesses requiring enhanced computing power are flocking to Super Micro Computer, which serves as a crucial supplier in this burgeoning sector.
Although it faces fierce competition, Super Micro Computer offers tailor-made solutions that surpasses its competitors' in terms of server customization. Additionally, its energy-efficient liquid-cooling technology delivers clients the most power-saving servers available, thereby helping reduce energy costs over the long term.
These advantages have propelled Super Micro Computer to the top of the data center hardware and full-server build market, resulting in impressive stock performance this year.
However, Super Micro Computer's investment case extends beyond its exceptional products.
Two Challenges Plaguing Super Micro Computer Temporarily
The stock experienced a steady decline since reaching its high point in March. Some of this downturn is justified as expectations embedded in the stock earlier in the year were excessive. As a result, the current valuation is attractive, making it an intriguing investment prospect.
The recent stock dip following Super Micro Computer's fourth-quarter earnings report, which ended on June 30, can be attributed to two factors. First, Super Micro Computer's gross margins have declined.
This trend warrants concern as dwindling gross margins can suggest that Super Micro Computer's products are becoming commoditized and that the company is losing pricing power. Management attributes this decline to the introduction of its new liquid cooling technology and other innovative products, which it expects will improve gross margins overall over the next three fiscal years.
Regardless, a decline in profits in the short term is unappealing to investors. This negativity influenced the stock price following the earnings report.
The second factor contributing to the stock decline entails what's known as Hindenburg Research, a renowned short-selling firm that profits when stock prices fall. Hindenburg published a short-seller report alleging accounting irregularities committed by Super Micro Computer, which was previously sanctioned by the Securities and Exchange Commission (SEC).
To exacerbate matters, Super Micro Computer has postponed filing its annual report with the SEC, citing the need to scrutinize its internal controls over financial reporting. If the reported financials are deemed unreliable, the stock becomes unrecommended for investment, leading to significant sell-offs.
But Super Micro Computer maintains that the purported financial discrepancies will not alter the company's financial results. Consequently, this issue is unlikely to be a long-term concern, provided the Hindenburg report proves inaccurate.
This situation with Hindenburg Research, however, is not without further complications. Subsequent to the Hindenburg report, the U.S. Department of Justice began an investigation into Super Micro Computer. While there's a chance the probe will yield no remarkable findings, it leaves open the possibility of further actions, causing the risk associated with investing in Super Micro Computer to escalate.
Investors will have to remain patient until the outcomes of the investigation are disclosed.
Regardless, these transient difficulties allow for the possibility of long-term investment gains, contingent on the absence of deceptive accounting practices, which can be gleaned from its forward price-to-earnings ratio (P/E), as the stock trades cheaply at 12 times forward earnings.
Given Super Micro Computer's expectation of a 74% to 101% revenue increase in fiscal 2025, coupled with ongoing improvements in profitability, the stock could demonstrate exceptional performance post-split, assuming the aforementioned issues are resolved favorably.
In the interim, the increased uncertainty surrounding Super Micro Computer creates added risk. While avoiding the stock completely is not advisable, especially if the investor is willing to take on the risk, the decision to invest should be carefully considered with investment size in mind.
Despite the temporary challenges facing Super Micro Computer, such as declining gross margins and allegations of accounting irregularities, the company's strong market position and innovative products make it an appealing long-term investment opportunity. With a forward price-to-earnings ratio (P/E) of 12 times forward earnings, the stock is currently trading at a discount, offering potential for significant growth once these issues are resolved.
Investors should consider the risk involved in the current situation, but a cautious approach, taking into account the investment size, could potentialize substantial long-term gains if Super Micro Computer's projected 74% to 101% revenue increase in fiscal 2025 materializes, along with ongoing profitability improvements. In this context, the 10-for-1 stock split could further boost the investment's potential returns.