Following David Einhorn’s addition of shares of Marvell this quarter, I decided to take a look at it, if it makes sense for me to invest in it.
I’m a value investor and out-of-favor, contrarian plays usually attract my attention. Here is my analysis and deep dive into the analysis for MRVL.
What is it?
It’s a semiconductor manufacturing company, which designs the chips used in hard drives, video games, phones, etc. They used to power RIMM phones, one of their top revenue sources (the new RIMM phones are not going to be using Marvell’s chips). MRVL are Fabless, meaning they outsource the actual production.
I did a SWOT analysis based on the 10-Q. I will also list what things there are to watch out for.
Eighty-eight percent of their revenues come from ASIA, which is very concentrated to the region.
- Very cheaply valued at approximately 5x TEV (total enterprise value)/EBITDA compared to competitors, around 8-12x. The TEV excludes the effect of cash.
- Long-standing relationships with big customers, such as Western Digital & Toshiba which account for major portion of their revenues
- Aggressive share repurchase plan, recently approved $500 million of additional repurchases, at $10 a share, and 563 million shares outstanding — the repurchase of 50 million shares, approximately 10% planned to be bought back during this year and next ($370 million is left in the repurchase plan, $130 mil is already used).
- Extra cash on the balance sheet which is way more than its current liabilities, the quick and current ratio are more than 4, which is very healthy.
- The manufacturer contracts can be terminated anytime by paying fees for the materials and work in progress (around $300 million at this time).
- MRVL is making inroads into new markets to sell SSD controllers and cloud computing.
- No apparent funny accounting in the 10-Q.
- New business drivers need innovation. The growth in the new segments has been very slow
- The newer products have lower profit margins, which is reducing the overall profit margin
- The heavy Asian dependence for manufacturing and selling exposes MRVL to macroeconomic risk in China.
- No long-term contracts with the buyers for the hard drives. Their customers such as Western Digital and Toshiba can terminate buying anytime if MRVL ceases to be cost effective or the technology becomes obsolete and MRVL is not able to keep up with the innovation.
- Operating income growth driven mainly by increase in accounts payable; it’s not organic growth.
- They might be spreading their resources too thin with a very long sales cycle and multiple products.
- MRVL can leverage heavy demand in the phone markets in China in the long run.
- Working to have long-term supply contracts with the buyers would make Marvel’s cash flows a bit stable and make it a better business in my opinion. It seems like they are completely dependent on their sales cycle for expansion into new markets and product niches, and since the cycle is lengthy it causes more spending.
- They’re involved in much litigation. If MRVL is found guilty of infringing any of their patents, this could severely affect their profits and products.
- Any sort of natural disaster (earthquakes, floods) in the Taiwan, Thailand, Singapore area would significantly affect the supply chain. The effect of the recent Thai floods is just starting to wear off.
- Some of the manufacturing sites are the only manufacturers of certain products. There is no backup. Any sort of problems at individual sites can cause a disruption.
- Any acquisitions could be potentially dilutive if not done properly.
- If the U.S. dollar falls, the payments will get expensive for MRVL’S customers and this could lead to lower prices (the companies are based out of U.S., but the payments are in U.S. dollars)
My reason to not buy:
The stock is cheap, but it’s not a very predictable business. MRVL does not have any debt and doesn’t pay taxes; this makes it a very efficient company with regard to taxes. Eighteen percent of insider shares are owned by three individuals who are related to each other. The company cannot be taken over easily because of certain clauses such as dilution of equity by issuing preferred shares. I would prefer to invest in business according to Warren Buffet in a moat-based company. Also never forget the two rules:
1) Never lose money
2) Never forget rule No. 1
The margin of safety in this business is not very high with regard to its DCF valuation. If something were to happen there is not much room for error.
According to Mohnish Pabrai, invest in businesses with high uncertainty but low risk. This is not a low-risk business.
Dates to watch:
Nov. 26 – The Carnegie Mellon Institute litigation result is expected and it could significantly impact MRVL or help the stock depending on the result.
Disclosure: I do have any positions in MRVL