Marvell Technology Group (MRVL) appears to be back on its natural track - rapid growth with high profit margins - as was the case from 2002 through 2006. This is also the reason that the company's first quarter report (call transcript) unveiled last Thursday received so enthusiastic a response the following day, as the share vaulted 23% on a record turnover of $1.25 billion. Part of the gain can also be attributed to short positions totaling 26 million shares as of mid-May, by traders who bet on the quarter being a bad one.
What was it that sent Marvell off the rails in June 2006, when the stock began its monumental freefall from the January 2006 high of $35 (split-adjusted) to the $9.8 low in January 2008? The company's announcement on June 27, 2006 of its acquisition of Intel's (INTC) loss-making mobile handset processor division for $600 million in cash was the signal that sent investors rushing for the exit.
The frantic exodus from the stock was given added momentum several weeks later with the unraveling of the ill-fated options backdating scandal. It became increasingly clear that the affair, which had been written off as a technical and marginal matter several months earlier, was a danger that could even put the company's very existence at risk, because of the chance that its founders might be forced to step down. The options cloud has only just been removed now, with the appointment of a new CFO for the company and the agreeing to a settlement with the US Securities and Exchange Commission [SEC].
Successfully managing a fabless company (one which develops chips but which has no production lines of its own), in an era of rapidly changing technologies, is one of the toughest and most complex jobs around. At least three years (and sometimes a lot longer) can elapse from the moment a certain design concept for an application is developed to the production and sales stage. Moreover, it often happens that by the time companies reach the final stage it turns out that the market is no longer there since the application has either become irrelevant, or is still too advanced for the market to absorb it.
The larger a company is, the less reliant it is on one chip or idea, which means that the risk is spread over different applications and the failure of one specific development will not bring down the entire company. This was the reason why Avigdor Willenz sold Galileo Technology to Marvell, shortly after Marvell held its IPO; having realized that betting on one market - broadband communications - was too risky, he decided to join forces with Marvell, another communications company, which was also in the consumer electronics market.
Israelis know of two small publicly-traded fabless companies today, which have staked their entire future on a specific market. Eli Fruchter, founder and CEO of LanOptics (EZCH) took a bet on the market for network processors for broadband infrastructure as far back as a decade ago, and today, with ongoing sales to Cisco Systems Inc. (CSCO) and Juniper Networks (JNPR), he can tell himself that he has made it big time.
Tzvika Shukhman, on the other hand, the founder and CEO of Metalink (MTLK) who once described his bet on the wireless chip market, as "as an intercontinental missile that hit the target," has only been partially successful, since although the launch may have gone as planned, the missile has yet to zero in on the target, given that the real market for the "wireless home" won't be here for at least another year.
Returning to Marvell's big gamble, in the summer of 2006, the company’s founders, Dr. Sehat Sutardja, his wife, Weili Dai, and his brother, Pantas Sutardja, realized, long before anyone had ever heard the word "iPhone", that the next few years would see the growth of a mega market for smart handsets that would integrate all the applications that previously existed separately, from music to video, email and computer games. At the time, Marvell was somewhat of a maverick as far as handset processors were concerned, and its activity was limited to the fringes of this market, where it focused on chips for WiFi and Blue Tooth communications.
Marvell's founders decided that it was time to enter this important market as well, but they knew that starting from scratch, as they had frequently done with other applications, would take ages, and that the market would not wait for them. Additionally, the market was controlled by just four or five big handset manufacturers, so getting a foothold in the door with a new processor from a new company in the field would not be easy. They realized that Intel was "dying" to offload the division that had been piling up the losses on its financial statements, a division it originally acquired in 1999, when it was called DSPC, from Israeli entrepreneur Davidi Gilo for $1.6 billion.
Knowing that investors would punish them severely for having the hubris to think they could make a profit where Intel had chalked up losses, Marvell's founders took a deep breath, dived into the water, acquired the division, worked day and night on its restructuring and, most importantly, they successfully outsourced the complex production from the expensive Intel to cheap subcontractors in Taiwan. Today, exactly two years later, they have emerged as the big winners, not just because they turned the division around fairly quickly, but because it now turns out that gambling on this market was a brilliant move.
There is not a single analyst today who has any doubts about the forecast that the market for smart handsets - the Blackberrys, iPhones, and the like - is set to become the biggest hit of all in the technology world in the coming years, and Marvell is right in the middle with its processors now fitted in all Blackberrys made by Research In Motion Ltd. (RIMM), and its sights firmly set on design wins from other producers. The first generation of the Apple Inc. (AAPL) iPhone has Marvell's wireless communications chip in it, and as soon as the third generation model is launched next week, it will be taken apart and the lucky suppliers of components for it will be disclosed.
Analysts are now talking in terms of an impending explosion in the smart handset market, just like the one in the laptop market in the early 1990s. The irony of it all is that Intel has now done a u-turn and is back on the market with its miniature "Atom" chip for mobile Internet devices - devices which will soon be performing the same functions as those of smart handsets, and vice versa. Marvell's rate of sales per quarter is currently more than $800 million, with pro-forma profit now at $150 million. It will now need to prove in the coming quarters that it is back on track for solid growth.
Published originally by Globes [online], Israel business news - www.globes.co.il
© Copyright of Globes Publisher Itonut (1983) Ltd. 2006. Republished on Seeking Alpha with full permission.