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Today, Marvell Technology, Inc. (MRVL) is having heavy, unusual call options volume (out-of-the-money calls) after reporting strong earnings results yesterday for its fiscal Q1 ending May 3. This highlights the value of the system-on-a-chip semiconductor designer and MRVL stock.
MRVL stock is at $75.08, up over 7% in morning trading. However, the stock is still well off its highs from earlier in the year. It could have significantly more upside, as will be seen in this article.
Strong Revenue and Free Cash Flow
Marvell reported +63% revenue growth Y/Y, propelled by strong data center-related growth for its cloud and AI server products. Moreover, revenue rose to almost $1.9 billion, up by +4.27% from the prior quarter.
This led to very high free cash flow (FCF), despite higher capex spending.
For example, operating cash flow (OCF) was $332.9 million, up +2.6% over last year's $324.5 million FCF. After deducting $118.8 million, FCF came in at $214.1 million.
That represents 11.2% of its $1.895 billion revenue for the quarter, a very strong FCF margin. On an adjusted FCF basis (including asset sales, etc.), FCF came in at $238.8 million, or 12.6% of sales.
That was 7.1% higher than last year's $223 million adj. FCF. This was despite significantly higher capex spending this quarter (i.e., $119m vs. $91.5m last year, or +30%).
As a result, we can project higher FCF going forward.
Projecting FCF and Price Targets
For example, analysts project revenue this year of $8.25 billion (+43%) and $9.78 billion next year, using 37 analysts' estimates. This implies a next 12-month (NTM) run rate of $9.015 billion.
As a result, we can project FCF using the company's most recent higher FCF margin:
$9 billion x 12.6% FCF margin = $1.134 billion FCF
That is much higher than a simple 4x projection using the Q1 FCF. For example,
$238.8m Q1 FCF x 4 = $955.2 million FCF
$1,134m FCF / $955.2m = 1.187 = n+18.7%
Therefore, MRVL stock could end up with an 18.7% higher market value over the next 12 months.
Let's test that. For example, right now, MRVL has a market cap of $64.55 billion. That represents 67.6x the run rate projection of $955m. Another way to say this is that the stock has a 1.50% FCF yield (i.e., the reciprocal of 67.6x).
This means that its NTM market cap could be significantly higher:
$1.134b NTM FCF / 0.015 = $75.6 billion
That is 17.1% higher than today's market value of $64.55 billion. In other words, MRVL stock is worth $87.92 per share:
$75.08 p/sh x 1.171 = $87.92 per share
Heavy Call Option Activity
So, no wonder investors are buying calls today (and, alternatively, selling out-of-the-money calls). This can be seen in Barchart's Unusual Stock Options Activity Report.
It shows that for the period ending June 20, over 7,000 call option contracts have traded at the $79.00 strike price. That is higher than the trading price and implies that buyers feel the stock will rise over the next two days.
Alternatively, it also shows that holders of MRVL stock are willing to sell their shares at $79.00 and receive a bid-side premium of 70 cents. That represents a covered call yield of 93 basis points (i.e., $0.70/$75.36 = 0.0093 = 0.93%).
In any case, this shows that investors are bullish on MRVL stock.
Analysts Agree
By the way, analysts agree that MRVL stock looks undervalued. For example, Yahoo! Finance reports that 41 analysts have an average price target of $89.24 per share. Similarly, Barchart's mean survey is $91.31.
These are close to my FCF margin and FCF-yield-based price target of $87.31 per share (see above). In fact, AnaChart.com, which tracks recent sell-side analysts' price recommendations, shows that 29 analysts have an average target price of $90.61 per share.
The bottom line is that either from a FCF analysis basis or using analysts' price targets, MRVL stock looks deeply undervalued.
So, no wonder investors are trading out-of-the-money MRVL call options in heavy volume.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
