Huge Quarter at Silicom!
By Ken Nagy, CFA
On January 23, 2013, Silicom Ltd (NasdaqGM:SILC), the provider of high-performance server and appliances networking solutions, reported financial results for its fiscal 2012 fourth quarter and full year, ended December 31, 2012.
The Company’s solid momentum continued with record fourth quarter and full year revenues, operating income, net income and earnings per share, each breaking all of Silicom’s previous records.
The Company’s fourth quarter revenues jumped year over year by nearly 51 percent to $16.693 million, which compares to revenues of $11.080 million for the three months ended December 31, 2011. Sequentially, revenues improved by $5.171 million from $11.522 million for the quarter ended September 30, 2012.
Operating income for the fourth quarter increased year over year by over 29 percent to a record $3.189 million, mainly as a result of the record revenues and lower total operating expenses as a percentage of revenues. Sequentially, operating income improved by $511,000 from $2.678 million for the quarter ended September 30, 2012.
Although total operating expenses increased year over year by $628,000, they fell to 18.6 percent of revenues from 20.2 percent of revenues during the fourth quarter of 2011. Likewise, operating expenses as a percent of revenues improved sequentially from 20.2 percent of revenues for the quarter ended September 30, 2012.
Still, gross margin for the three months ended December 31, 2012, fell to 37.7 percent compared to 42.5 percent for the fourth quarter, ended December 31, 2011. Likewise, sequentially, gross margin fell from the 43.5 percent for the three months ended September 30, 2012.
On a GAAP basis, the Company’s fourth quarter net income increased year over year by 26.3 percent or $631,000 to a record $3.031 million from net income of $2.400 million for the comparable quarter of 2011. Sequentially, GAAP net income improved by $450,000 from $2.581 million for the quarter ended September 30, 2012.
The increase in net income was a result of record revenues and lower total operating expenses as a percentage of revenues offset by lower gross margin.
Based on a weighted average number of diluted shares of 7.006 million shares, diluted net income per share resulted in net income of $0.43 per diluted share during the fourth quarter of fiscal 2012. This compared to a diluted net income per share of $0.34 on a weighted average number of diluted shares of 7.014 million shares during the three months ended December 31, 2011.
On a non-GAAP basis, the Company reported fourth quarter net income of $3.420 million or $0.49 per diluted share. This compares to non-GAAP net income of $2.705 million or $0.39 per diluted share for the quarter ended September 30, 2012 and $2.502 million or $0.36 per diluted share for the quarter ended December 31, 2011.
For the twelve months ended December 31, 2012, year over year revenues improved by 22.9 percent or $9.076 million to a record $48.709 million from $39.633 million for the full year fiscal 2011.
GAAP Net income for the twelve months jumped by $1.564 million year over year to a record $9.871 million for the full year ended December 31, 2012. This compares to $8.243 million for the comparable twelve months ended December 31, 2011.
Here again, the year over year jump in net income was a primarily a result of higher revenues as well as a drop in total operating expenses as a percentage of revenues, which was offset by lower gross margin.
Total operating expenses increased year over year by $1.119 million, but fell to 20.2 percent of revenues from 22.0 percent during the twelve months ended December 31, 2011.
Gross margin for the year fell to 40.8 percent compared to gross margin of 43.4 percent for the twelve months ended December 31, 2011.
Based on a weighted average number of diluted shares of 6.968 million shares, diluted net income per share resulted in net income of $1.42 per diluted share during the full year fiscal 2012. This compared to a diluted net income per share of $1.18 on a weighted average number of diluted shares of 6.995 million shares during the twelve months ended December 31, 2011.
On a non-GAAP basis, net income for the full year2012 increased year over year by 21.9 percent to $10.580 million and non-GAAP earnings per diluted share for fiscal 2012 jumped to $1.52 compared to $1.24 for the twelve months ended December 31, 2011.
For the period ended December 31, 2012, Silicom’s cash, cash equivalents, bank deposits and marketable securities totaled $56.9 million or $8.12 per outstanding share, which is a sequential improvement of nearly $2 million from the $54.8 million, or $7.91 per outstanding share as of September 30, 2012.
Furthermore, as a demonstration of management’s confidence, and in light of the Company’s significant cash reserves, Silicom recently announced a dividend policy to further enhance the value of its shares for its shareholders.
In mid-January 2013, the Company’s Board of Directors adopted a policy for distributing dividends, subject to all applicable laws, where each year Silicom will distribute a dividend of up to 50% of its annual distributable profits.
It should further be noted that this was Silicom’s highest ever cash level which demonstrates to both its existing customers as well as new potential customers that the Company can meet all their needs and provide them with support over the long term.
Furthermore, the improvement of assets provides the Company with a substantial level of working capital and financial flexibility, placing Silicom in a position of strength and stability, enabling the Company to continue to invest in its business as well as take advantage of opportunities as they arise.
Management feels more confident than ever about its ability to continue its growth over the short and long term and believes that the Company is ideally positioned to continue its progress in step with its fast-growth target markets.
With strong demand for all of the Company’s product line, exciting strategic wins with some of the industry’s most important players and an extensive pipeline of potential sales, management believes that Silicom has never been better positioned and remains very optimistic with regard to the Company’s future potential.
Likewise, management looks forward to the Company continuing its strong growth, profits and value for its shareholders in the years ahead.
Valuation
We feel Silicom should be valued by its cash plus business operations. With cash and liquid assets of $8.12 per share, plus the company's business operations value based on 11.3x our 2013 EPS estimate, this gives us a $25.00 company value.
Looking at it another way, we see the SETAC technology driving the company's growth over the next several years.
Two Stage Free Cash Flow to Equity Model
FCFE = Net Income – Net Capital Expenditure – Change in Net Working Capital + New Debt – Debt Repayment
Assumptions
1. The company is expected to grow at a higher growth rate in the first period.
2. The growth rate will drop at the end of the first period to the stable growth rate.
Rationale for using the Model
As new products are introduced to new customers, we expect the company to grow at a higher overall rate than the industry. As these products mature and the company faces more competition, we expect the growth rate to level off.
Weakness of the Model
As you add more layers to the model, it is more sensitive to the assumptions you make. The growth may look more "lumpy" than we have in the model.
Output
We used the following inputs:
1. An 8-year period with an earnings growth rate of 15.0% (average forecast) and a discount rate of 13.8%.
2. A continuing period assumed to go on forever, with earnings growing at 5% and a discount rate of 9.56%.
With these inputs we arrive at a target price of $25.00.
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