Is This Storage Business a Buy After a Significant Patent Fine?

Anh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Marvell Technology Group (NASDAQ: MRVL) experienced a significant daily drop, as much as 10.3% to $7.40 per share, as a federal court fined the company $1.17 billion due to the infringement of two patents held by Carnegie Mellon University. Bloomberg reported that the court found the infringement to be willful, which could lead up to three times the verdict amount. David Einhorn, the famous hedge fund manager, could get hit pretty hard by Marvell Technology's loss, as it is one of his top holdings as of September 2012.

Storage Business With Customer Concentration 

Marvell is one of the biggest global providers of fabless semiconductors, with a product portfolio including data storage, Ethernet data switching, wireless networking, mobile handsets, etc. Marvell derived the majority of its revenue from the storage business segment; more than $1.56 billion, accounting for 46% of the company's total revenue in fiscal 2012. The second biggest revenue source was from Mobile and Wireless, representing 29% of the nearly $3.4 billion in total revenue. Its sales were concentrated in several customers, including Western Digital (NASDAQ: WDC), and Seagate Technology (NASDAQ: STX). Western Digital accounted for around 19% of Marvell’s revenue in fiscal 2012. With the acquisition of Hitachi’s storage business, Western Digital’s sales will rise to 24% of Marvell’s net revenue. Seagate Technology, with the recent acquisition of Samsung’s hard drives business, represented 11% of the total sales in fiscal 2012. Marvell generated the majority of its sales from Asia, from which it received around 81%-89% of the total company’s sales over the last 3 years.

David Einhorn Big Bets on Storage Business

David Einhorn, a billionaire hedge fund manager, has been a fan of storage businesses, with big holdings in both Seagate and Marvell. As of September 2012, he reported to own nearly 16.6 million shares of Seagate and more than 32.73 million shares of Marvell. Seagate and Marvell accounted for 8.5% and 5% of his total portfolio, respectively, at the time of reporting. In the letter to shareholders on July 2012, he wrote that the company had around $4 per share in cash and was trading at around 5x next year’s earnings. In addition, he hoped for an aggressive share buyback program due to its excess cash positions. Einhorn was excited for the decline in the stock price, as he could increase the stake in the company. He indeed built upon the position in the second and third quarter of this year, at the price range of between $9.18 and $15.77 for both quarters. Thus, at the current price of $7.40 per share, it was well below the price that he paid for Marvell.

A Scary Significant Fine

As of October 2012, Marvell had nearly $4.7 billion in stockholders' equity, including more than $2 billion in cash. In terms of value investment, Marvell was really a great debt-free cash flow generator that is cheaply valued. However, the $1.17 billion fine will wipe out half of its cash on hands, reducing the total equity to $3.5 billion. The recent reduction of $0.85 in the share price would be equivalent to more than $450 million in total market capitalization, based on the total shares outstanding (535 million). Thus, I would expect the share price would continue to decline further. Marvell is currently worth around $3.96 billion. The potential fine would go up to as much as $3.5 billion. If that was the case, the majority of the company’s market capitalization will be wiped out. That is a pretty scary scenario for Marvell.

Foolish Bottom Line

I personally think the probability of a $3.5 billion fine is be quite low. However, it is hard to predict the legal uncertainty. In the near term, I would expect Marvell to decline further, which could represent an opportunistic play for investors.

 


hoangquocanh has no positions in the stocks mentioned above. The Motley Fool owns shares of Western Digital. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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