If companies like Nvidia (NASDAQ:NVDA), EMC (NYSE:EMC), and Microsoft (NASDAQ:MSFT) are right about the growth potential in high-performance computing, high-end storage, and data centers over the next three to five years, Mellanox (NASDAQ:MLNX) should do pretty well for itself selling its high-end Infiniband and Ethernet connectivity switches, boards, and cables. Intel (NASDAQ:INTC) remains a looming risk with its integrated Omni-Path offerings, but Intel has had its issues before with overpromising what it could deliver with integration, and Mellanox has a pretty solid hold of the high end of the market.
Matters with Mellanox have developed largely in line with my expectations when last I wrote, as 2015 revenue was about 4% higher than I'd modeled, and FCF was about 7% better. I wasn't overly impressed with the valuation then, and the shares did fall about 25% at the worst point, while a strong recent rally has them close to 10% above where they traded back in May.
At this point, I'm still pretty ambivalent on the valuation; I can see outperformance with EZChip integration and cross-selling driving better results, as well as increased adoption of 100G Infiniband, but data center spending can be volatile, and Intel still has enough credibility to be viewed as a serious threat to Mellanox. Double-digit revenue and FCF growth assumptions support a mid-$50s fair value in my model, which isn't enough to get me excited about it as a new buy.
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Ongoing Execution Will Be Mellanox's Best Argument Against The Bears