Marvell Technology - Be Cautious After 2013's Strong Momentum

| About: Marvell Technology (MRVL)

Shares of Marvell Technology (NASDAQ:MRVL) saw a correction after the company released its second quarter results. While the results and outlook were excellent, investors are negatively surprised that a federal judge upheld a $1.17 billion jury award regarding patent infringement.

After the strong momentum this year, and the potential for a high settlement value, I remain cautious and stay on the sidelines.

Second Quarter Results

Marvell Technology generated second quarter revenues of $807 million, down 1% compared to previous year, and down 10% from the first quarter. Revenues came in ahead of consensus estimates of $791.3 million.

GAAP net income came in at $62 million, with GAAP earnings per share totaling $0.12. Earnings improved by a penny compared to the first quarter but fell four cents compared to last year.

Non-GAAP earnings came in at $118 million with earnings pr share coming in at $0.23 per share, down a penny from last year. Adjusted earnings came in ahead of consensus estimates at $0.19 per share.

CEO and Chairman Sehat Sutardja commented on the developments over the past quarter, "Our results in the second quarter were at the high-end of our guidance mainly due to better demand and share gains in our storage end market and strong double digit growth in our mobile and wireless end markets."

Looking Into The Results

Marvell had strong momentum which has helped the share price performance so far in 2013. Revenues rose 10% compared to the first quarter and are expected improve further into the third quarter.

GAAP gross margins fell by 100 basis points to 52.2% of total revenues. Marvell boosted research & development expenditures by almost four percent point to 36.3% of total revenues, heavily impacting operating earnings.

Net earnings fell by 35.7% to $61.8 million on the back of margin compression and additional research and investment efforts. A negative effective tax rate and greater interest income could not offset this.

Third Quarter Outlook

Marvell expects to generate revenues between $850 and $890 million in the current third quarter. At the midpoint of the range, revenues are seen up 8% compared to the second quarter and up 11% compared to last year. Consensus estimates for third quarter revenues stood at $845 million.

GAAP earnings per share are seen between $0.13 and $0.17 per share, with non-GAAP earnings seen between $0.23 and $0.27 per share. Last year, Marvell reported GAAP earnings of $0.12 per share.

Valuation

Marvell Technology ended its second quarter with $1.73 billion in cash, equivalents and short term investments. The company has no outstanding debt, for a solid net cash position.

Revenues for the first six months of the year came in at $1.54 billion, down 4.4% on the year before. Net income fell by almost 39% to $115 million. At this pace annual revenues could come in around $3.2 billion, while earnings could come in around $250 million.

Trading around $12 per share, the market values Marvell at $6.2 billion, or its operating asset around $4.5 billion. This values operating assets of the firm at 1.4 times annual revenues and 18 times annual earnings.

Marvell Technology currently pays a quarterly dividend of $0.06 per share, for an annual dividend yield of 2.0%.

Some Historical Perspective

Long term investors had little pleasure from their investment in the company. Over the past decade, shares have risen from $10 in 2003 to highs around $35 per share at the start of 2006.

Shares fell to lows of $5 during the financial crisis in 2008 but recovered to $20 in 2010. Worries about stagnating operating performance and litigation claims send shares to lows of $7 at the end of last year. After witnessing returns of almost 70% year to date, shares are back to current levels around $12 per share.

Between the calendar year of 2009 and 2012, Marvell has increased its annual revenues by a cumulative 13% to almost $3.2 billion. Earnings actually fell by 13% to $307 million. Earnings per share actually rose a little bit as Marvell retired a quarter of its shares outstanding.

Investment Thesis

Investors have finally seen some returns this year as operating performance is improving, and the continued share repurchases boost earnings per share. The major worry for investors is the overhang of the lawsuit.

During the quarter, Marvell retired 7.2 million shares which occurred at a slower place than in recent quarters. At this pace Marvell still retires its shares at a rate of 5 to 6% per annum.

The bad news was that a federal judge on Friday upheld a $1.17 billion jury award imposed on the company, after allegedly infringing two patents held by the Carnegie Mellon University. If Marvell had to pay the awards, it could cost shareholders some $2.35 per share.

The university sued Marvell back in 2009 on patents related to the way in which hard disk drive circuits read the data from high-speed magnetic disks. Hopefully for Marvell a claim can be settled at a fraction of the $1.17 billion litigation claim.

Back in November of 2012, when Marvell traded around $8 per share, I took a look at Marvell's prospects. I concluded that shares are worth the gamble after poor earnings and worries about the patent infringements, as the company has sufficient resources to sit through the rough times.

All in all, I remain a bit cautious at the moment despite the solid momentum. The current $6.2 billion valuation is based on a large extent to its $1.7 billion cash balances. These could however take a serious beating if Marvell was ordered to pay $1.17 billion in the settlement with Carnegie, or a substantial amount of that.

Even when factoring in the entire cash position, thereby not assuming any settlement payments, the valuation at 18 times earnings is getting stretched, despite the strong momentum.

I remain a bit cautious after the strong momentum this year.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.