Are Investors Paying Too Much for iRobot?

In this final segment from a show devoted to home smart robot provider iRobot (NASDAQ: IRBT), Industry Focus: Consumer Goods host Vincent Shen and contributor Asit Sharma discuss the company's valuation. While its forward price-to-earnings ratio may seem a bit steep, the pair explain why it's actually close to fair market value. Watch the video below to find out why investors aren't overpaying for iRobot at current levels.

A full transcript follows the video.

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This video was recorded on Dec. 18, 2018.

Vincent Shen: Let's wrap up. Any final takes? Also, valuation? What are your thoughts there?

Asit Sharma: I absolutely want to talk about valuation. It's pertinent to everything that you just discussed, Vince. Currently, the stock trades at a forward P/E ratio of 30X. The stock is trading at 30X one-year forward earnings. The market cap of this company is about $2.5 billion. How are these two pieces of information related? This is essentially still a small-cap stock. I was surprised to see the market cap, which I hadn't looked at in a while. I thought it would be greater. What that tells me -- I spoke about this a couple of months ago on a show -- for a small-cap company, to trade at 30X earnings means that you're right in line with the Russell 2000 index. That's the average forward valuation for a company of this size, all things considered.

So, in my opinion, although 30X forward earning sounds a little pricey, there's not really much of a premium there. Investors who are short-term oriented may feel that's great. Those who are longer-term oriented may see that the market is discounting the forward opportunity of integration that Vince talked about -- again, going back to a concept that he mentioned at the very beginning of the show, the spatial awareness. The data that a Roomba can provide to other components in a house that are integrated, the Internet of Things devices, which are all communicating with each other, those potentialities are enormous if you just start to brainstorm what a Roomba might be able to provide. Myself, a random one I came up with -- what if your Roomba could tell your Sonos speaker to play the volume up a little bit, because it's coming to vacuum, but your kid's still in the room? You can just imagine, if it does, indeed, integrate with other devices and sell some of its capabilities, that's a marketplace advantage. That's hard for a competitor who's just manufacturing a device on a price-point to compete with.

I think the stock long-term looks attractively valued here, especially, it's sold off along with the general tech sector as of this recording a little bit this year. What are your thoughts, Vince?

Shen: I think for a company in this position, you have the market share leader. They're putting up well over 20% top line growth in 2018. Over 15% on the bottom line. The 30X forward earnings doesn't look quite so pricey to me. I think a long-term investor can generally, not quite shrug off, but not put as much weight on, for example, the near-term hit with the tariffs. That doesn't mean you can't protect your yourself by building out your position over time. Given the strong demand for these new products that they launched, those are going to be big story drivers in the holiday season. Strong sales, maybe weaker profits, but the company is going to work into that with these new features and building up their ASPs.

You have a company here that's the leader in this young industry. As you said, it's very small, $2.5 billion market cap. Again, I've really been excited to look into this company, get updated on it again. It's a very cool business.

Asit Sharma has no position in any of the stocks mentioned. Vincent Shen has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends iRobot. The Motley Fool has the following options: short January 2019 $15 calls on SONO. The Motley Fool has a disclosure policy.