Semtech adds another gem with Gennum
Just 11 months ago, Ovum published an opinion on Gennum which outlined Gennum’s abilities in applying core technology strength in signal integrity at high bit rates to new products for different markets, while maintaining high gross margins and operating margins. We were not the only ones impressed with Gennum; Semtech Corporation recently announced its plans to acquire Gennum.
Semtech is a supplier of analog and mixed-signal semiconductor products for four major markets, including communications – both wireline and wireless. Semtech’s revenues have grown significantly over the last several years. We believe that its acquisition of Sierra Monolithics in late 2009 is partially responsible for the growth. This acquisition provided Semtech with a unique product line, 40G and 100G mux (multiplexer) and demux (demultiplexer) chipsets.
Gennum will strengthen Semtech’s positioning in communications with products for the FTTx and fibre channel markets. In addition, Gennum brings Semtech the high-margin broadcast video transmission ICs market.
Picking the right acquisition targets at the right time
Semtech’s revenue growth accelerated in FY2011 (which ended January 30, 2011) and reached $455m compared to less than $300m in FY2010. Its revenues are continuing to grow, with an LTM (last twelve months ended October 30, 2011) of $493m. While we cannot attribute all of Semtech’s revenue growth to the acquisition of Sierra Monolithics, the timing for acquiring a leading independent component vendor of 10G/40G mux/demux ICs was excellent. Ovum’s report High-Speed Optics: Global 40G/100G Market Outlook (OT00063-033, published January 2012) predicts that high-speed 40G and 100G linecard revenues together will grow 33% cumulatively over the 2010–16 period, reaching $6.4bn in 2016 due to the unrelenting demand for mobile, broadband access, and data center interconnection applications. The 40G/100G mux/demux ICs feed into this fast-growing linecard market segment.
The acquisition of Gennum will add further to Semtech’s top-line. Gennum had FY2010 revenues of $129m, up from $85m in FY2009. Gennum’s nine-month revenues ending August 31, 2011, were $103m compared to $96m for the nine-month period ending August 2010. Gennum’s product lines easily expand Semtech’s reach into large markets, such as FTTx PON and fibre channel along with immediate dominance in the very high-margin broadcast video transmission ICs market. Ovum’s FTTx OC Forecast Spreadsheet: 2011–16 (OT00066-023, published September 2011) forecasts FTTx optical components to reach $1bn in 2012.
While the respective customer bases of Semtech and Gennum do overlap, Gennum brings vendors serving the video business, such as Sony and JVC along with optical communications-focused companies such as Neophotonics.
Gennum – doing what’s best for the investors
Gennum has continued to post strong financial performance with a 71% gross margin and 11% net earnings margin for the nine months ended August 31, 2011. But continuing to develop new products and maintaining high margins is no easy feat, especially when the customer mix shifts away from North America and Japan towards highly price-sensitive markets in the Pacific Rim. Just comparing the nine months ending August 31, 2011 versus 2010, revenues from the Pacific Rim (excluding Japan) increased from 38% of total revenues to 43%, while revenues from North America declined from 27% to 22%.
Sometimes executives wait and see what the market will bring, while others build and execute around contingency plans and strategies. We believe that Gennum’s executives and board members come from the proactive mindset of keeping ahead of market trends, development, and operating costs. Gennum stock is trading at CAD$13.48 compared to its 52-week low of CAD$5.57, basically reflecting the offer price of $494m.
The devil is in the execution
On paper, including tabulations, the acquisition makes sense, a lot of sense. Semtech shareholders will benefit from an accretive acquisition, raising non-GAAP earnings per share by $0.20 in FY2013 and $0.40 in FY2014. Non-GAAP gross margin should increase by 300 bps (basis points). In addition, Semtech has identified $15m in synergies, meaning elimination of $15m of operating expenses by FY2014.
As we know, acquisitions present many challenges, especially around execution. Gennum has been managed like a Swiss watch, with precise planning and execution. If the acquisition execution plan mirrors this level of corporate performance, the new Semtech will attain its financial, business, customer, and product goals.
