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When Will Marvell Technology's Acquisitions Start to Pay Off?

By Nicholas Rossolillo – Sep 27, 2021 at 1:30PM

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Chip designer Marvell has been an aggressive acquirer in recent years, and losses have started to mount as a result.

Data-processing semiconductor specialist Marvell Technology Group (MRVL -1.51%) has made a string of acquisitions over the last few years including two in 2021. These moves have been transformational for the company, but the company is also reporting losses as a result. On this Motley Fool Live video segment from "The 5" recorded on Sept. 16, Fool.com contributors Jason Hall and Nicholas Rossolillo and Motley Fool analyst Clay Bruning talk about whether these losses are a concern. 

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Jason Hall: Marvell Technology, ticker MRVL. This is a company I'm trying to learn more about. Infrastructure semiconductor solutions. They reported late August. I just hit some of the high notes again here. Revenue just under 1.1 billion, up 48%. Reported GAAP gross margins of 34.6%. Adjusted gross margins of almost 65%. Lost $0.34 a share on a GAAP basis.

They said, well, adjusted we made $0.34 a share. There's a lot of things going on with Marvell. There's some acquisition activity that's happened. That makes the numbers a little complex. You have to think a little bit more broadly, and having some context on what's going on there I think would be would be super handy. Before we do that, though, I just want to talk about a couple of things I noticed on the balance sheet or in the operating statements.

I think it ties to what's going on with how the business has changed a little bit. That's costs. If you look at again at revenue, you go back a couple of years ago, you were looking at quarterly revenue, $650 million a quarter -- and now we're looking almost $1.1 billion because of goods sold over that time have more than doubled. Gross profit dollars are just about the same place they were. Nick, explain what's going on that's affecting it. Because that's where these adjustments the company is saying. That's where they come into play.

Nicholas Rossolillo: You hit the nail on the head with the acquisition comment you just made. A lot of M&A activity in the last few years in the semiconductor space -- Marvell's been, I'd say, a little above average in their aggressive stance in making acquisitions for big ones. In the last few years, they bought a company called Cavium a few years ago to get into the data processing unit space.

Just this year they acquired Inphi, and then most recently they announced that they are buying this other company called Innovium that does Ethernet switches for cloud computing data centers. Elevated expenses, most of it is them amortizing their acquisition costs. The acquisition is paid for already. They've either paid for it by issuing new debt or issuing new stock. But they amortize that expense over time. That's the difference between the GAAP losses and the non-GAAP earnings that Marvell has been reporting.

Clay Bruning: Yeah, I'd love to highlight a quick quote here and I think this alludes to how much they've benefited from the adoption of cloud in general and cloud computing. They noted that they're going to have strong sequential revenue growth in the third quarter thanks to strong data center performance.

Then they said they were going to have a significant step-up in revenue in the fourth quarter because of additional 5G rollouts and tailwinds related to 5G. Yes, they've been very acquisitive, but in my opinion, as someone who hasn't dove extremely deep into the business, it seems like they've been acquiring in the right places in terms of data center getting more cloud exposure. They've reduced their consumer exposure as well over the last couple of years. They are really starting to reap some of the benefits of the strong capital allocation in my opinion.

Rossolillo: Yeah, Clay. Just to tack onto what you just said. They said in the last earnings call, consumers now are like 15% of the business. Data center's now 40% of the business. They think data center will continue to grow beyond that as a percentage of their total revenue. It's a big opportunity. I think they've done a good job in making acquisitions in the right places to capitalize on that growth.

Bruning: Yeah. One more note on that, I was looking at some common-sized financials at the company to see how they've trended in terms of percentage of their revenue coming from data center versus consumer and all their newly touted segments. In the third quarter of 2019, which is their fiscal year 2020, 32% of revenue came from data center and 32% of revenue came from consumer. Fast-forward to the second quarter of this year, data center is up to 40%, and like you said consumers are half to about 16%. They're really concentrating their capital allocation and where they're focusing their sales, in my opinion, in the right places.

Rossolillo: Yeah. That's a dramatic jump. For sure.

Hall: Yeah. Just a couple of things I'm going to hit on here too. I think this is another just one of those examples of, if you look at the losses, you look at the operating results and then you have to look at cash flows as a separate thing because a lot of times when acquisitions happen, you take on certain expenses and a lot of times those things that show up are non-cash. They are tied to capital deployments, the money we spend, but they're not tied to a cash expense that happened that particular financial period.

That's really helpful to understand that. In general, this is a company that for a number of years is consistently generating a lot of positive operating cash flow. It's lumpy. [laughs] It's very lumpy. Then this is net income. That's the orange one. We haven't seen a lot of that operating cash. All the revenue growth, we haven't seen the revenue on here. There's the revenue growth. It hasn't translated so far to growth in cash flows. That's my question for both of you guys. I'll defer to both of you to respond, whoever wants to pick it up first. When is that going to happen? When are all of these acquisitions and driving out costs and ringing out efficiencies and all that stuff. When is the cash flow going to start following the revenue growth? Nick, go ahead.

Rossolillo: It takes a number of years. Amortized costs like that -- companies typically stretch that out over a 10-year period. They decrease over time, though. But on some of these acquisitions, they've been really good about showing how, yes, they're taking on some extra expenses, but on an adjusted basis, it's immediately adding to the bottom line when you back out the non-cash ongoing expense. The most recent one is Innovium that gets them into these switches that help control the flow of data in a cloud data center.

The current quarter, it's not going to do much. But by next year they said it's going to equate to added profitability. Two acquisitions within a year, we're just going to see some elevated expenses on a GAAP basis. But pay attention to the non-GAAP figure, the GAAP figure will converge with that over time, over the course of the next couple of years.

Bruning: Jason, I'm glad you brought up a risk, and we see, seemingly, painted a picture that everything is perfect with honestly the last couple of companies. This is a risk that I like to consider a lot with this specialty acquisitive businesses: execution risks. I haven't studied Marvell too closely. But if I were to take a look into this, the first thing I would look at is management's track record. Has the CEO digested acquisitions in the past? If so, have they been as large as some of the previous ones? If not, what went wrong, could that go wrong again? That would be my next step in terms of my research process. Look at management's track record. In terms of digesting and integrating acquisitions.

Hall: Yes. Sometimes it's the simplest way to grow in this area, but it's the hardest one to execute on well, because when you buy a company, you bring all that company's expenses along. You have a corporate culture of your own. Can you integrate the corporate cultures there? Which parts of that business can you squeeze out, push those expenses out and now cash flows get better. But how does that affect employees? How does it affect morale? Like there's all of those moving parts. Every acquisition you buy, you iterate that, you have to go through that exact same thing.

Nicholas Rossolillo and his clients own shares of Marvell Technology Group. The Motley Fool recommends Marvell Technology Group. The Motley Fool has a disclosure policy.

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