Imagination Technologies out of favour

Imagination Technologies fell back sharply from recent highs after flagging up "muted" licensing activity during the third quarter. The firm, which designs and licenses computer chip technology, also warned that licensing revenue may be no better than last year - bosses had previously targeted 10% growth.

The license miss equates to about £4 million, according to Investec Securities, which implies a 9% decline versus a strong second half of last year. Imagination blames timing issues rather than any fundamental change in demand for its products. In fact, the pipeline "is good and is further strengthening across all three IP families" - processor, multimedia and communications. Licensing revenue could even grow by single digits if deals close on time.

However, as it stands, this offsets a positive impact from foreign exchange movements - the stronger dollar has beefed up revenues which are mostly invoiced in dollars - and the benefit to royalty revenue given strong MIPS (Microprocessor without Interlocked Pipeline Stages) shipments.

Imagination now expects MIPS units to grow by 5-10% this year, which is about 40 million more than expected, "but at low royalty rates this implies a c.£1 million upgrade to royalty revenue," says Investec. "Qualitatively, we see this as recovery from a low base, as opposed to a green light indicating MIPS as a fearsome ARM-killer."

Non-MIPS shipments will be the same as last year, while the underlying loss at Pure should narrow. "The progress across our three main IP families is a further step forward towards our longer term target of increasing our operating margins to 30-40%," said Imagination's chief executive Hossein Yassaie.

Imagination shares had rocketed 60% since early October to levels rarely seen since late 2013. Even after tumbling 10% on this data to 233p, the shares trade on 34 times forward earnings, dropping to 29 times for the year to April 2016.

And the company is running out of friends in the City. Numis already had a 'sell' rating on the shares and has just cut its price target to 155p. Now, Investec has put its forecasts under review and finnCap's Lorne Daniel has downgraded to 'sell'. "We think the stock has run too far in recent months, and faces significant hurdles in competition and R&D expenditure," he says.

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