MoSys: Pure Play on Nintendo Popularity

Back in August I mentioned a company who would stand to benefit from the upcoming video game console cycle. Well now we are well on our way to kicking off the console cycle and it has been an interesting one. There has been good and there has been bad, but clearly demand is strong. With sellouts across the globe, video games consoles are all the rage right now and people are lining up to get the hottest gift this holiday season.

The unexpected surge of Nintendo (NTDOY) has shifted the balance of power, as no clear cut market share winner is apparent yet. Given the uncertainty surrounding the console makers, investments in these names may prove fruitless. There is a real lack of obvious pure-plays outside of Nintendo.

Given Nintendo’s recent run, its luster as a pure play could prove expensive. However, a little known chip maker has positioned itself nicely to benefit from the success of the Nintendo Wii. MoSys Inc. (MOSY).

MoSys licenses IP to chip makers and its memory IP is embedded in each graphics chip in the Nintendo console. MoSys sees about 60 cents of revenues for each console sold. Not a bad clip for a company with little more than 15 million in revenue last Quarter. Add the fact that MoSys operates on ~90% margins, and you can see the benefit to earnings for MoSys.

This little known semi company has created a nice little niche for itself in the embedded memory system-on-a-chip market, a fast growing chips segment that is heavily used in consumer electronics. Given its attractive windfall from the surging Nintendo popularity, and its bright growth prospects moving into next year, MoSys makes for an interesting play on the under appreciated consumer electronic and semi segments. And more importantly, a pure play on Nintendo popularity.

Disclosure: Author is long Mosys

MOSY 1-yr chart

Comments

[Steven Towns:]

Excellent call Michael! I'm wondering though, if you could point out where you get the $15m in REV last qtr from? I only see $4m, and $12m for all of last year. Also with the launch of the Wii and the Nintendo's earlier forecast of selling 4m units by year-end and 6m units by fiscal year end (Mar 07), do you think think this has been factored into the current share price and its runup? Considering just current quarter revenue at your mention of $0.60 royalty/unit, then we see $2.4m in Q4 rev. How about developments with its other customers, there's a nice flashing list of them on their website...? Also I notice a sizable short-term cash holding. Is this for investment purposes only, or is it part of their operating strategy? Do you have any target price for MOSY and do you anticipate any take-over bids given its balance sheet strength and future prospects? LASTLY, what's with the heavy insider-selling, primarily by one individual officer?

TIA for any details you can provide.

2006 Nov 22 11:37 AM

[Michael Church:]

my apologies. 15m is this years estimate. sorry about that, was writing quickly.

My thoughts regarding the cash would be a buy-back. However, a current executive has a sell plan in place. so i beleive that would not be possible until that ended, which i believe is next month. I cant see a aquisition in the cards here, so that could be a possibility.

As for pricing it in. I think the recent run up has caught some of that, however i do think that there is more left in the tank. In my opinion the Wii is going to continue to outstrip expectations. 4m million worldwide by year end will be easily attainable if rumors of the 1m sold at the north america launch are true. Also keep in mind that nintendo has a much stronger hold in japan and should be more dominant in that market (dec 2 is japan launch). Their strength in the US market right now is a serious plus. Sony continues to fumble and production issues there will only further benefit Nintendo.

They have signed a couple new contracts recently. Fujitsu was recently announced, however, the actual product with which Mosy's IP is going into has yet to be disclosed. Management indicated it was a high volume consumer electronic product. Speculation suggests this may be a portable gaming device. But that would be just guessing from the language in the press release. And on its recent quarter call management indicated another contract was signed similar to the fujitsu deal, however, did not disclose further details.

Also of note is a collaboration with Verisilicon, a chinese foundry focusing on SOC's. which is Mosy's sweetspot.

Also they recently settled a litigation with uniram that was sapping 500k a quarter.

And there is still a decent short interest that has been increasing into its bottom this summer, although that may likely have dropped recently.

It was already a takeover target from Synopsus a few years back. That deal however fell apart. I spoke to management a few months back and asked what was up with the insider sales. The reply was that he had founding shares that he had never monetized and his wife was pressuring him for a higher quality lifestyle. whatever that means. I would be concerned here except that the other co-founder (Dr. Hsu and now a director) who left and is now with TSMC has about 2.5m shares still and hasnt sold since 2004. So i have taken managements word there. Keep in mind current management (Chet Sylvestri and Jim Pekarsky) came in shortly after the Synopsus blow up. I would just be guessing but there may be some internal dynamics involved with the "new" guys vs. the founder.

My personal target is 12. Probably on the optimistic side, but i feel that there is some potential upside remaining to the new contract announcements and the continued strength of the wii.

i hope that makes sense, lots of questions, just trying to address each. Let me know if this helps.

2006 Nov 22 01:31 PM

[Steven Towns:]

Michael, thank you for your quick response and detailed answers. I appreciate it and am sure Seeking Alpha readers do as well. I agree with you regarding optimism for Wii, especially in Japan. Separately, a good sign is the settled litigation as you mentioned. I'll need to review its SEC filings for any other litigations. The insider selling and short-interest are worrisome, but for those of us who haven't bought MOSY yet, means we may see a pullback creating a buying opportunity. I believe in Nintendo's strategy (to attract a broader audience to gaming) and see it regaining significant market share from Sony and basically reducing Microsoft to a non-competitor in Japan. It has a number of advantages including its strength in handhelds, popular games (particularly interesting are its classics as well as those "simple, fun" games attracting women and the elderly), price competitiveness, strong balance sheet and profitability --- thus, I like the potential play here with MOSY and will have to watch more closely. Congrats again on a great pick earlier in August.

Have a nice Thanksgiving holiday!

2006 Nov 22 01:53 PM

[Michael Church:]

Steve, could not agree more. And what u say is the foundation for my thesis here. Just a random note, i woke up at the crack of dawn to get a Nintendo and at first glance i think this system has a huge opportunity to expand. I am by no means a "hardcore" gamer, and it think this system has the potential to appeal to both. The Wii-mote really is impresssive and works surprising well. 3rd Party game makers woke up to Nintendo back in february at the E3 conference. They have been scrambling since. But, if they commit significant resources to this system (which they may be forced to do given its early popularity) there is potential to develop some really innovative games with this controller. I could see some seriously revolutionary and blockbuster titles arising from this system.

A pullback is always possible. And MOSY trades pretty thinly. So any near term volatility to the downside would make a good entry point. Its a good story that has the potential to grow into something more than just Nintendo. But if the Wii is a success there is always the potential for the Wii 2. MOsy and NIntendo (its actually through NEC) have had a long relationship dating back to the Gamecube, and that is where my speculation of the Fujitsu contract being a portable gaming device originates from.

Thanks for the questions!! Have a great holiday yourself. Go buy a Nintendo!!

2006 Nov 22 03:01 PM