Citigroup Commentary From Friday
(& congrats to the longs who hung tough with MRVL despite all its recent "challenges"!)
Marvell Technology Group Ltd (MRVL) Surprising Structural Improvement AND a New CFO; Reiterate Buy
* What's New - While the Street expected a solid top line Y (CIR 5/18/08 note), expectations were low regarding gross and operating margins given spotty trailing-four quarter execution and the absence of a CFO. However, MRVL beat Street EPS by 70% with: 1) a structural up-tick in gross margin, 2) a structural down-tick in op ex, and 3) on-track product cycles. St C08/9 EPS to increase 40%/25% so despite an 18% post-close stock pop, valuation is benign (13.6x C09 EPS). Stock likely headed to the low-to-mid-20's in 12 months; let short-covering play-out Friday, then add to positions on mkt volatility for 35% ETR.
* A Clean Results 'Beat' - Revenues over-achieved yet again (-4.8% qq to $804.1M; Street $783.6M) but the real surprise was: a) huge gross margin upside (52.0%; CIR 49.2%), and b) tight op ex control ($270M vs CIR $293M). Overall EPS was $0.22 vs. Street $0.13. Simply nothing for Bears to pick at.
* Solid (Though Conservative) Outlook - The 3.9% qq rev growth guide is in-line but ests move up $25M on a higher base. While GM was guided flat to down 100 bps and op-ex up ~4%, we see conservatism given the number of initiatives at play. Implied EPS of $0.21 is 31% better than Street ($0.16).
* CFO In The House - Clyde Hosein (from IDTI) should: a) bolster expense mgt, b) deliver clear, steady messaging, and thus c) be welcomed by the Street.
* Estimates (F2009) - CIR F09E revs and EPS increase to $3.47B (up 20% yy)/$ 0.98 from $3.40B/$0.72. On higher estimates our target increases to $22 from $19, our risk rating to High from Speculative.
M a r g i n L e v e r a g e H e r e ; C F O I s s u e P i v o t s F r o m H e a d w i n d T o T a i l w i n d
We remain constructive on MRVL's C08E product and margin leverage story and on stock risk/reward. While acknowledging demand uncertainty given the current macro backdrop, company-specifics are improving on four important vectors: 1) the product cycle story is coming through, 2) un-satisfactory wireless handset gross margins are improving (now 40%+), 3) 2007's sloppy expense management looks under control, and 4) the CFO over-hang is gone with the placement of a well-regarded industry veteran. While the Bear argument will now shift to new CFO guidance conservatism risk in the August outlook, our checks suggest investors will look through this issue.
* Company-specific Storage drivers (~42% of sales) including: a) new 'iterative' technology in desktop (39% of sls) and notebook (42% of sls) products, b) a transition from a read channel component to a SOC in enterprise (11% of sales) which doubles ASP's, and new MLC NAND flash controllers (we think customers are INTC and SEC),
* Secular trends in WLAN (12% of sales) fueled by: a) uptake of .n technology, b) increased application penetration, and c) growth in the home router market.
* Continued handset chip momentum (15% of sales): a) Strong RIMM 2.5G/2.75G sales momentum, b) new shipments of 3G devices, and c) continued shipment to the portable navigation device market.
* We model margins easing back to 51.5% and note that the steady handset component manufacturing transition to TSMC is a gradual gross margin tailwind, though leave conservatism for increased pricing if foundry utilization moves significantly higher
* New internal controls/benchmarking, etc, and a full quarter's benefit from F1Q09's initiatives suggest that the $280-$285M F2Q09 guidance is conservative. We think 1-2% expense growth is possible.
* On CIR's revised estimates shares trade at 16.6x and 13.6x F09E (C08) and F10E (C09) EPS estimates, as operating margins ramp from 10% in F08 to 19.2% and 20.2% in F09 and F10. With downside to ~$14 (trough multiple on C08 EPS) and upside to $22, risk/reward remains favorable.
Tactically, we argue to let short covering play out Friday, then add to positions on market volatility through June, noting that after its post- results pop of 16.0%, BRCM shares soon offered investors more compelling entry opportunities. On implications, BRCM is likely to enjoy a favorable bid Friday, while the strength of MRVL's print, coupled with Dell's after-market move, likely augurs well for broader strength in Specialty Semiconductors. Our top pick for new money remains ONNN (40% ETR to $14 target).
P o s i t i v e s :
* Revenue ($804M) beat CIR/Street (~$780M) by 3% on: 1) Storage - strength in notebook segment, 2) WLAN and 3) Printers.
* Gross margins of 52.0% vs CIR at 49.2%, up 330 bps on improved costs, wafer yield enhancements and better inventory management.
* Operating expenses of $255M (includes one time benefit of $15M), significantly better than $293M modeled on reduced legal expenses and heightened focus on cost controls.
* Non-GAAP EPS of 24 cents beats CIR/Street EPS of $0.12/$0.13.
* Net cash per share increased to $0.67 from $0.45 in the prior quarter
* Storage revenue grew by ~30% y/y (Mobile 2.5' drives, HDD share gains by customers).
* Began volume shipment of HSDPA communications processor to RIMM.
* WLAN revenues grew 90% Y/Y
* Revenues guided $835M (mid pt) up 3.86% in line with CIR/St despite $24M upside in current quarter.
* Gross margins guide down 50 bps (midpt) appears conservative given structural improvements in the underlying business, though rising foundry utilization is a modest headwind.
* Focused on maintaining operating expenses flat post C2Q08
* EPS guide of $0.21 (mid point) above CIR/St at $0.15/$0.16.
* Management plans to pay down $100M in term loan (~25% of current outstanding) in C2Q08 Negatives:
* Enterprise networking revenues less robust than that observed at competitors (demand pull in prior quarter).
* Applications processor revenues were below expectations due to end of life of current product
* DSOs increased by 12% to 42 days from $0.36 in prior quarter
Risk Rating Reduced to High From Speculative We are revising our MRVL risk rating to High from Speculative predicated on the following factors:
* Strong cash flow generation potential and expected pay-down of 25% of the debt balance next quarter even through cash on hand and FCF.
* Improving earnings stability as gross margin and expense management initiatives take hold, as evidenced in gross and operating margins which are moving toward the company's targeted levels.
* The placement of industry veteran Clyde Hosein in the formerly open CFO position which is likely to further bolster expense management initiatives while also improving the company's ability to effectively communicate with the Street.
* Resolution to the SEC options timing inquiry in May and the removal of expense and executive retainment/recruitment risk related to this now- closed case.
