Thinking of buying the IQE share price? Read this first

IQE plc (LON:IQE) might look cheap, but before you buy in, you should read this says Rupert Hargreaves.

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Shares in wafer manufacturer IQE (LSE: IQE) have been a hugely disappointing investment to own over the past 12 months. After the stock peaked at 174p in November of last year, it has slowly ticked lower.

At the time of writing, the shares are changing hands for around 75p, 57% below their all-time high. Year-to-date, the stock has fallen 48%, underperforming the FTSE All-Share index by 40% over the same period.

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After these declines, the stock looks cheap compared to its history. But before you buy in, there are several things I think you should know.

How cheap is it?

Shares in IQE look cheap compared to where the stock was trading 12 months ago. However, there’s a big difference between cheapness and value. The shares look cheap on a price basis, but on a fundamental basis, they are still relatively expensive.

Even though shares in the company have declined by 57% from their all-time high, they are changing hands today for 19.8 times forward earnings, a premium to the rest of the semiconductor industry, which is trading at an average forward P/E of just 18.

To put it another way, shares in IQE would have to fall by another 9% just to be average.

Falling earnings

The figures I have mentioned above are somewhat misleading because they are based on what analysts believe the company will achieve in 2019. In 2018 analysts are currently expecting IQE’s earnings per share (EPS) to decline by 18% to 2.3p, which puts the stock on a forward P/E of 33.9.

In my opinion, this leaves too much to chance. Analysts are expecting EPS to rebound by 78% in 2019, but what happens if they don’t? Personally, this is not a risk I am willing to take because if the company stumbles, the downside from here could be significant.

And because analysts have already downgraded their 2018 EPS forecasts from 4.4p in December 2017 to 2.3p at present, I think the chance of a further downgrade is high.

Another revision lower would almost certainly result in more investors turning their backs on the company.

Unanswered questions

The fall from grace started last year when short selling group Muddy Waters questioned IQE’s accounting practices. Even though management has tried to rectify these issues by bringing in new auditors, it has failed to appease its doubters fully.

Around 20% of the shares are still out on loan to short sellers, who are betting against the company. On top of this, the firm relies upon one major customer, Apple, for the majority of its sales. At the beginning of November, the group warned on profits, saying that a “major customer” has significantly cut the value of its orders with the business. Even though the name wasn’t mentioned, analysts believe this customer is Apple.

The fact that so much of the group’s revenue is tied to the success or failure of another business, and there are questions still hanging over its accounting practices, leads me to conclude that it is almost impossible to forecast the outlook for IQE. With this being the case, and considering the premium valuation currently attached to the shares, I think it is worth staying away from the stock right now.

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Rupert Hargreaves owns no share mentioned. The Motley Fool UK owns shares of and has recommended Apple. The Motley Fool UK has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Should you invest the value of your investment may rise or fall and your Capital is at Risk. Before investing your individual circumstances should be considered, so you should consider taking independent financial advice.

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