The slow motion disaster movie that is Applied Micro Circuits Corporation (AMCC) is still in theaters even though investors stopped buying tickets long ago.
AMCC announced this morning an all cash deal to buy Quake Technologies for $69M net. AMCC has managed to spend nearly $1BB in cash on a number of acquisitions, none of which have provided a return better than simply sticking the dollars in the bank. We feel that Quake will be yet another failed acquisition.
The best thing we can say about this acquisition is that it’s an improvement over buying jet fuel for ex-CEO Dave Rickey’s Gulfstream to shuttle back and forth to Nice in order to oversee yet another failed acquisition, IBM’s Prisma switch fabric group.
Quake Technologies builds serializer/deserializers (SERDES) chips for 10 Gigabit Ethernet (10 GbE). They take multiple signals at 3Gb/s and turn them into signals at 10Gb/s. Most of these chips are sold into 10GbE Ethernet modules.
We estimate around 400k 10GbE Modules will be sold in 2006. Quake probably has around 50% market share and receives $50 per chip. Annual revenue for Quake is about 10-14M this year and that gross margins are in the 65%-70% range. There is a conference call this afternoon to review the details of the acquisition, let’s see how our guesstimate made no company data holds up.
On this conference call, expect to be wowed and wooed with tales of exploding 10GbE market size. Listeners should bring their hockey sticks in order to be adequately prepared. And it will all be true. 10GbE volumes are exploding, growing at 100%-200% for the next few years. From the release:
According to the Dell’Oro group, 10GE ports are predicted to grow from approximately 500 thousand ports shipped in 2006 to over 9 million ports shipped in 2010; a 17-fold increase in four years. 10GE is now one of the fastest growing networking technologies.
The problem is 10GbE isn’t going to explode until pricing drops. And the only way pricing drops is by eliminating components like Quake’s SERDES. Del’Oro left this little fact out when they wrote their report.
A Cisco 10GbE port that ships for $5k-$7.5k requires another $2.5k for an optics module (Typically XENPAK/X2). These optics modules are expensive because they integrate large amounts of components inside, components like Quake’s SERDES.
Cisco is the market for Ethernet and is pushing for a new optical standard called SFP+. (see ‘SFP+ – Yet another optical MSA‘ ) SFP+ is expected to cut the cost of optical modules by a factor of five by eliminating much of the active electronics (i.e. the Quake chip) in the module and leveraging the manufacturing volume of the existing SFP module form factor, which runs at around 13M units a year.
The SERDES function would then be implemented outside the module, most likely integrated into the Ethernet MAC or Ethernet switch that abutts the optical module.
AMCC will claim that this acquisition provided the needed intellectual property to enable such integration, but AMCC lacks the Ethernet products to make any use of this IP. A Broadcom (BRCM) or Marvell (MRVL) or Agere (AGR) could make ready use of this intellectual property but not AMCC.
Quake knew their long term dilemma and resolved the situation by cashing out. AMCC took the bait.
AMCC used to be a leader in SERDES technology and battled head to head with Vitesse (VTSS.pk) in the late ’90s. It is a sad commentary on the state of AMCC when they can no longer develop chips internally that used to be their core competency. Vitesse Semiconductor (VTSS) has an excellent 10G GbE SERDES – for $69M I’m sure they would have been happy to sell it to AMCC!!!
Here’s what AMCC really bought – a $10M a year revenue stream, maybe going to $20M next year with lower margins, then dropping to a few million within 4 years. I will bet $1 with anyone that AMCC never realizes $69M in product revenue from this acquisition, let alone gross margin or profit.
We’ve also heard rumblings of AMCC scooping up Intel’s (INTC) communication semiconductor assets. This could be a good deal but like all deals, it depends on the price. Given AMCC’s current aptitude at deal valuation, I suggest Intel ask AMCC to make an offer this week and cash the check next week.
I can hear the laughing from Quake headquarters all the way here in Boston. Don’t forget the banks close at 5PM.
Update – Several people have asked me if I own AMCC. I do not and have not for several years and I hold none in our portfolios.
2nd Update (4 Aug 06) – Listened to the call last night. Analysts asked all the right questions. AMCC provided revenue, margins, growth, market share guidance on Quake. I felt no need to ask questions, particularly because I am not a shareholder.
My estimates of $10M was low for ’06, and $20M for calendar ’07 is closer to their guidance of $24M.
My favorite question was why AMCC simply couldn’t build this themselves…. kudos to you if you thought that one up yourselves.
My conclusions remain the same. Quake is a good company that AMCC severely overpaid for. What expected rate of return is AMCC using when they pay 69MM? What does this acquisition contribute to profits in ’09? ’10?