Inphi's Data Center Game Remains Strong As The Clock Ticks Down

I think there’s a good argument to be made that Inphi (IPHI) has been one of the best plays on the growth of data center spending over the past three years (NVIDIA (NVDA) certainly belongs in that discussion too), with the company enjoying especially strong share in physical layer Ethernet components and subsystems (analog chips, DSPs, and optical components), particularly its PAM4 platform. While telecom has been more up-and-down, this market too should enjoy a rebound in 2021 as major service providers resume deployments and the company moves beyond the loss of Huawei as a customer.

Inphi’s upside is now limited by the pending acquisition of the company by Marvell (MRVL). I continue to believe that this is a good (albeit expensive) deal for Marvell, and I expect the deal to close in the second half of the year. With Inphi trading at a greater than 8% discount to the implied deal value, this might be a name to consider for investors who like to trade those deal spreads.

 

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Inphi's Data Center Game Remains Strong As The Clock Ticks Down

Marvell Adds A Premier Silicon Photonics Asset To Its Data Center Arsenal

Having already built an impressive data center portfolio, in part through acquisitions, that included processors, storage, security, and Ethernet components, Marvell (MRVL) decided to go one large step further, announcing the acquisition of Inphi (IPHI) and its high-speed optical interconnect assets in a deal worth close to $8.7 billion. Marvell is paying around $8.7B to expand its served addressable market by about $3 billion a year, but adding Inphi should also create meaningful cost, development, and revenue synergies over time. Moreover, it takes a premier asset off the board, preventing another rival from acquiring it, and I wouldn’t dismiss the possibility of end-market growth exceeding current expectations.

I can’t fault Marvell’s ambition, but it wasn’t the company’s ambition or execution that concerned me coming out of the analyst day. Obviously, 5G infrastructure and data center offer very attractive multiyear growth opportunities, but there’s an increasingly high bar in terms of growth and margin performance to drive further re-rating.

 

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Marvell Adds A Premier Silicon Photonics Asset To Its Data Center Arsenal

Leadership In Data Center Interconnect Continuing To Propel Inphi

It wasn’t that long ago that I last wrote on Inphi (IPHI), early April in fact, and the shares are up almost another 30% since then. The company did in fact produce the beat-and-raise quarter I expected, but the degree of the “raise” was startling even to me, as the company continues to benefit from physical layer upgrades in the data center.

How do you value Inphi? As is often the case, exceptional growth companies like Inphi don’t really work from a DCF standpoint and they break the models for the sort of multiples a “normal” company should get. You can turn to alternative approaches like peer multiples, but it’s tough to construct a peer group for Inphi – Nvidia (NVDA) and Silicon Labs (SLAB) would arguably belong in that group, but it’s a fairly short list.

You can also look at what the market has been willing to pay for similar growth in the past, or some combination of those approaches. It’s that latter method that I’m gravitating toward now; I won’t defend it as a particularly rigorous approach, but based upon what the market is willing to pay for the growth at companies like Nvidia and Silicon Labs now, and what it has paid for comparable growth in the past, you can get a fair value range of around $115 to $140 today.

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Leadership In Data Center Interconnect Continuing To Propel Inphi

Inphi's Reaping The Rewards Of First-Mover Advantage In Data Center

With semiconductor stocks selling off on worries about weakness in autos, consumer products (including smartphones), and industrial markets, data center is one of the few areas of strength in the space, and Inphi’s (IPHI) strong growth position in that market is even more attractive now. Strong results and ongoing growth in high-end data center deployments continue to drive these shares, with the stock up almost 20% so far this year and more than 90% over the past year.

As I’ve said before in reference to Inphi’s valuation, you’re either on board with the growth/momentum angle and relatively insensitive to valuation, or you’re on the sidelines waiting for a sell-off. The stock did pull back briefly below $60 at what looks like will be the “peak panic” moment for this Covid-19 outbreak, but has since shot up close to 60%. I can’t call today’s price any sort of bargain by typical valuation approaches, but Inphi continues to offer very atypical growth on the back of drivers like ColorZ, PAM4, and 400G ZR.

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Inphi's Reaping The Rewards Of First-Mover Advantage In Data Center

Inphi Riding Great Data Center Momentum Into 2020

This has been an amazing year for Inphi (IPHI), as the market has woken up to not only the company’s strength in physical layer technologies for the data center and telecom markets but also its ability to execute on those technical capabilities. Looking into 2020, Inphi has the chance to leverage 400G ZR, 200G/400G PAM4, and its M200 coherent DSP into even larger addressable markets, keeping the company on a trajectory to a served addressable market of $2 billion in 2022 against a likely 2019 revenue figure around $365 million.

Inphi’s qualities are certainly no longer overlooked, with the shares up over 130%. While I realize that growth/momentum investors will not be discouraged by valuation, it’s harder and harder to work the numbers to support such a robust valuation.

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Inphi Riding Great Data Center Momentum Into 2020

High-End Data Center Opportunities Driving Inphi

Tech investors love growth, and with many semiconductor stocks grinding through a rut, Inphi’s (IPHI) strong double-digit growth is definitely bringing the stock plenty of the right kind of attention. Customers like Amazon (AMZN), Google (GOOGL) (NASDAQ:GOOG), and Microsoft (MSFT) continue to invest heavily into high-end data center capacity, driving strong demand for Inphi’s high-performance optical components, and the Cisco (CSCO)–Acacia (ACIA) deal could shift more DSP business toward Inphi as Acacia customers reconsider their supply chains.

I love Inphi’s business, but the stock is a little harder for me to embrace now. I thought the shares had upside back in May on the back of that above-average growth potential, but the 25% move was more than I expected. I know growth stocks can live in their own world when it comes to valuation (for a little while, at least), and I’m not betting against Inphi, but the Street already seems to be counting on a significant ramp in data center spending in 2020 and beyond.

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High-End Data Center Opportunities Driving Inphi

Inphi Validating Its Growth Stock Credentials, With PAM About To Ramp

Although I liked Inphi (IPHI) as a higher-valuation/higher-risk pick back in September, I didn’t quite expect the 35% move the shares have logged since then. While Inphi has done quite a bit better than the SOX, and would-be competitor MACOM (MTSI), MaxLinear (MXL) has more or less kept pace as investors get more bullish about the upcoming ramp of PAM chips in high-end data centers.

As things sit now, I still love the opportunity Inphi has in data centers, not to mention an arguably under-appreciated opportunity in 5G backhaul. The valuation more fully reflects that, though, and so while I do think Inphi is capable of additional beat-and-raise quarters, I can’t really say this is a situation where the Street is significantly underpricing the near-term opportunity. That said, looking a few years out at what this company could do in terms of revenue, margins, EBITDA and so on, there could still be further upside for shareholders.

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Inphi Validating Its Growth Stock Credentials, With PAM About To Ramp

Ciena Executing Well On Growing Opportunities In Telco And Data Centers

Ciena (CIEN) has been one of my preferred names whenever Wall Street skepticism starts ramping up and undermining the price, and the shares have chopped their way almost 50% higher over the past year and 70% over the past two years, handily outperforming rivals like Acacia (ACIA), Infinera (INFN), and Nokia (NOK) over those time periods. While I do think the valuation today is more demanding, or at least more reflective of Ciena’s strong execution and growing end-market opportunities, the share price isn’t unreasonable and this is absolutely a name to consider on pullbacks.

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Ciena Executing Well On Growing Opportunities In Telco And Data Centers

MaxLinear Marking Time Ahead Of Commercial Ramps In 2019/2020, But Spending Less

I've thought that MaxLinear (NYSE:MXL) held some potential for more risk-tolerant investors for some time, but I was surprised to see the strong (approximately 25%) move in the shares since my last update. Granted, chip stocks have done well over the past month, with the SOX up almost 20%, and I think investors liked the company's guidance for much better opex in 2019, but it's still worth noting that the growth story here is tied to wireless access, backhaul, and optical interconnect opportunities that won't really kick in until late this year and where MaxLinear has to show it can elbow aside established players like Analog Devices (ADI), Broadcom (AVGO), and Inphi (IPHI).

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MaxLinear Marking Time Ahead Of Commercial Ramps In 2019/2020, But Spending Less

MaxLinear Marking Time Ahead Of Game-Changing Product Ramps

As the semiconductor sector has come under pressure, MaxLinear (MXL) has held up okay since the company's "kitchen sink" second quarter and stable third quarter (even if stable at a lower level). Looking into 2019, while MaxLinear has a lot of work to do to repair its reputation and restore confidence in the long-term growth story, the company at least won't be contending with weaker trends in autos or handsets, and the lead-time-related disruption to sales and order trends are likely to be significantly less impactful here than at other chip companies.

The MaxLinear story still rests on believing in a significant revenue ramp in the coming years, driven largely by 5G (RF transceivers and millimeter modems), front-end optical (metro and data center), and data center interconnects. The potential is there, and the share price today still offers upside, but "potential" is a word that can lose you a lot of money if it's not followed by execution.

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MaxLinear Marking Time Ahead Of Game-Changing Product Ramps

Inphi Shares Pricing In Significant Growth In Data Center And Optical

There is a long list of companies in the chip and networking space leveraged to meaningful growth in optical deployments (long-haul and metro) and expanding adoption of higher-speed networking technologies in the data center. Inphi (IPHI) is uncommonly focused on this market; while adoption of 200G and 400G technologies is important to Mellanox (MLNX), Broadcom (AVGO), Finisar (FNSR), MACOM (MTSI), MaxLinear (MXL), and Semtech (SMTC) to varying degrees, Inphi is intensely focused on DSPs, drivers, TIAs, and PHYs used by equipment companies like Cisco (CSCO), Huawei, as well as hyperscale data center customers like Microsoft (MSFT) and Amazon (AMZN), and lacks the diversification of rivals like Broadcom.

There have been more than a few bumps in the road for Inphi, as data center deployments haven’t always matched up with bullish projections, and the company has been vulnerable to volatile spending patterns in markets like Chinese optical deployments. What’s more, the shares aren’t exactly cheap, as they already factor in meaningful revenue acceleration over the next three years and significant margin expansion. While Inphi does have strong technology and engineering capabilities, and I believe there is likely an M&A “backstop” to valuation, the markets Inphi participates in are intensely competitive.

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Inphi Shares Pricing In Significant Growth In Data Center And Optical

Washed Out Expectations Should Help MaxLinear From Here

It tells you something about the level of confidence the market had in a company when it announces that the next quarter’s revenue will be 20% lower than expected (and 25% lower relative to expectations just a month or so before) and the stock basically shakes it off in a few hours. Such was the case with MaxLinear (MXL), a recent serial disappointer in the semiconductor space that has repeatedly lowered expectations in recent quarters, but where there’s still some measure of confidence that 2019 and 2020 will see a significant ramp in new advanced products.

As I’ve written in the past on MaxLinear, I expected 2018 to be a forgettable year (although not this bad), and I still see opportunities for the company to pick up business in MoCA, wireless backhaul, and DOCSIS 3.1 in 2019 and 2020, with hyperscale data center interconnects also chipping in late in 2019 and into 2020. I believe MaxLinear shares can support a low $20s fair value today, but a lot of management credibility is resting on this third quarter being the worst point of the cycle and revenue ramping up from there.

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Washed Out Expectations Should Help MaxLinear From Here