WOLF - MACOM Technology Solutions: New Highs After An Interesting Wolfspeed Deal

2023-08-23 17:55:44 ET

Summary

• MACOM Technology Solutions experienced a slowdown in revenue growth, causing temporary share price declines.
• The company recently acquired assets from Wolfspeed, which is expected to add $150 million in sales and is set to be accretive to earnings.
• Despite recent challenges, MACOM's shares have recovered and reached new highs, driven by hopes of a recovery and the potential of AI in the industry.

In March, I believed that strength in shares and the business of MACOM Technology Solutions ( MTSI ) was slowing down. This came after the business had seen a surprisingly strong 2022, with revenue growth accelerating during the year, yet growth was set to slow down rather meaningfully in the then upcoming quarter.

The revenue slowdown revealed itself recently and temporarily hurt the shares, as shares recovered in recent weeks. In fact, shares have reached new highs on the back of a nice deal to acquire some assets from troubled Wolfspeed, a deal which looks quite appealing, although that overall valuations remain a bit too rich for me to get involved.

A Supplier Of Semiconductor Products

MACOM designs, manufactures and supplies semiconductor products used in telecommunication, industrial, defense and datacenter applications. A broad portfolio of RF, microwave, analog, mixed signal and optical products are supplied to thousands of customers.

For the year which ended in October 2021, the company grew sales by 14% to $607 million, on which operating profits of $81 million were reported. Due to interest expenses, taxes and warrant liabilities, net earnings only came in at $38 million, for GAAP earnings of $0.54 per share based on a share tally of 70 million shares.

These earnings stood in great contrast to a reported $2.15 adjusted earnings per share number, with amortization charges responsible for a big portion of the gap between both metrics. Backing out stock-based compensation expenses, I believed that realistic earnings came in around $1.50 per share.

The company has seen some turbulence in its past. After the IPO in 2012, a time at which shares of the company traded around the $20 mark, shares rallied to the $60 mark in 2017, only to fall back to the teens again in 2019 after sales came down and losses were reported. This was followed by a peak again post-pandemic, as shares traded at 8-9 times sales based on a $5 billion valuation, making that earnings multiples were demanding with realistic earnings seen around $1.50 per share.

Despite a $128 million divestments of the equity interest in Ampere in a $128 million deal, shares have seen momentum in 2022. Full year sales for the fiscal year 2022 rose by 11% to $675 million, with adjusted earnings seen at $2.82 per share, as I pegged realistic earnings at $2.30 per share. Moreover, the divestment in Ampere resulted in a flattish net cash position, as a $70 stock traded at 30 times realistic earnings.

With the business outpacing peers in an uncertain economic environment, I appreciated the strength, but at the same time was fearful about a reversal of operating momentum as well. While first quarter sales for 2023 rose by 13% to $180 million, and adjusted earnings of $0.81 per share trended in excess of $3 per share, momentum was set to cool.

The company guided for second quarter sales of $168 million, up just 2% on the year before, with adjusted earnings per share seen at $0.78 per share. Even as a small bolt-on purchase was announced at the time, I was fearful to pay such a premium multiple for the shares in March given the essential growth standstill.

Bust - Boom

Since early March, shares of MACOM actually fell to the lower fifties in May after which shares recovered to fresh highs at $77, after jumping $5 per share in response to an interesting bolt-on deal.

In May, the company did end up posting second quarter sales of $169 million and change, up nearly 3% on the year, as adjusted earnings per share came in a penny ahead of the guidance. Moreover, the company did issue a soft guidance for the third quarter, with sales seen down to $145-$150 million and adjusted earnings seen between $0.52-$0.56 per share.

In August, third quarter sales were reported down 13% to $148 million, with adjusted earnings coming in at $0.54 per share, as the results were largely in line with expectations. Fortunately, some stabilization was seen, with fourth quarter sales seen at a midpoint of $150 million, and earnings seen at $0.55 per share. Despite the bolt-on deal, the company managed to post a minimal net cash position of $22 million.

This makes that the current year is one of stagnation versus last year, making the 30 times multiple is still largely intact at $70 per share, as the weakness has arrived. Nonetheless, shares have recovered on the back of the hopes of a recovery and potential for AI to lift spirits across the industry. The latest move to $77 per share, in which a $5 move higher adds over $350 million to the market value of the firm, comes on the back of an interesting deal.

Benefiting From Wolfspeed Woes

Later in August, MACOM announced that it has reached a deal to acquire the RF business of Wolfspeed ( WOLF ) including the portfolio of Gallium Nitride and Silicon Carbide. The company will pay $125 million for the activities, comprised out of a $75 million cash component and $50 million stock to be issued, in a deal set to add $150 million in sales. This makes for a sales multiple far below 1 times, all while the own business trades closer to 9 times sales.

This low multiple, and the fact that the deal will be accretive to non-GAAP earnings, are comforting factors. The modest sales multiple and expected earnings accretion explain the huge jump in terms of the market value of the firm, in relation to the purchase price, as it seems that MACOM is really the winner in this with Wolfspeed being troubled amidst soft operating performance, which includes large operating losses, but moreover huge capital spending requirements.

And Now?

The reality is that ahead of the deal with Wolfspeed, shares of MACOM have traded around the $70 mark, the same levels as in March. This happened even as the company has seen a not so impressive third quarter and outlook for the fourth quarter.

While I fully agree with the jump higher in response to the acquisition of the RF business, the valuation was a bit too high for me to get involved, although I am happy to see the pro forma implications of this interesting deal in the coming quarters.

For further details see: