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My daughter brought EZchip Semiconductor Ltd. (formerly LanOptics Ltd.) to my attention. The Company has been public since the early 1990s (it did not change its name in connection with a reverse merger). I could not find very much on it so I decided to do this analysis.

EZchip Semiconductor Ltd. through its subsidiary, EZchip Technologies, is a fabless semiconductor company that is engaged in the development and marketing of Ethernet network processors for networking equipment. It designs and produces network processors for high-speed networking equipment, integrating several key functions into a single chip. Networking equipment vendors use EZchip Technologies' network processors to form the silicon core of networking equipment, such as switches and routers, for voice, video and data integration in a variety of applications.

EZchip Customers predominately use the processors in equipment for major ethernet carriers/providers (Carrier Ethernet Routers/Switches). The Company states that the advantages of its processors are that they are programmable and also include traffic management functions. They compete with other vendors' processors that are not programmable or, if they are, do not include traffic management functions. The objective is for the Company's processors to allow a customer to upgrade functionality of their CESR equipment without designing a new product around a different processor.

Aspects of the business:
• Several-year lead time on customer changes so few surprises on business volume. Provides a temporary moat. Conversely, long lead times on sales cycle that includes testing, adoption and ramp up to production.
• Juniper Networks was approximately 54% of 2009 revenue; Marvell Technology 8%, others 38% for 2009. For the six months ended June 2010, Juniper 42% of revenue, Marvell 19% of revenue, A new processor (NP-3) began the early production stage; ZTE Corporation 11%, up from 8% the prior year.
• Juniper Networks, EZCH's largest customer, plans to make its own chips and will be reducing purchases from EZCH. The Company indicated that it does not know the volume or the time frame of the reduction. Juniper sales were down to 42% of the Company's revenue for the first six months of 2010.
• The Company can take advantage of investment incentives under Israeli income tax law, which essentially eliminate income taxes over a period of up to ten years.
• Four of six major CESR manufacturers use EZCH.
• Marvell Technology Group Ltd. sells the Company's products under a licensing agreement. The Company does not have any manufacturing costs related to these sales.
• *Competitors - Sandburst Corporation (Broadcom), Bay Microsystems and Xelerated, Inc. in high speed, Agere Systems and Wintegra in lower speed. FPGA vendors are AlteraCorporation and Xilinx, Inc. Customers' internal production.
• The Company reversed a portion of its reserve on deferred tax assets (DTAs) in 2009 $(11.7 million). Although it will be recognizing the DTAs in income in proportion to future tax provisions and may reverse additional DTAs in the future, the accounting will not have very much, if any, cash impact because the Company will not be paying taxes for many years after it becomes profitable due to the Israeli investment incentives noted above.
• Dec. 2009, the Company had approximately $5.9 mm nominal value in currency contracts to mitigate exposure for future New Israeli Shekel salaries.
• Cash & equivalents grew from $35 to $42 million from Dec. 2009 to June 2010. Marketable securities grew from $29mm to $51 million.
• No outstanding corporate debt.
• Employee Stock Options for almost 4mm shares outstanding (total share o/s of about 24 mm) at December 31, 2009. Potential 16% dilution. Options outstanding at June 30, 2010 down to 3.1 million due to exercise.
• Presumably some value in intellectual property.
• Solid balance sheet.
• Most revenue attributed to China and Hong Kong.

The reports filed with the SEC are thorough and easy to understand (if it can be said that any SEC filing is easy to understand).

I can understand why WEB stays away from technology companies. Determining the demand and forecasting future revenues is taking a slippery slope. Not only are the drivers of demand difficult to pin down but the technology is changing so rapidly that EZchip has (1) processors in production, (2) processors ramping up production, (3) processors in late testing, (4) processors in early testing and (5) processors being designed. There is no way to understand how those products will be accepted by customers or what the competition may be doing that could affect the Company's success. Consequently, I do not have a lot of confidence in my sales forecasts. They are based on reading EZCH filings, articles about the company, its business, its customers and its competitors. I discovered one analysis of the market and it cost $900 to buy the analysis. I was not ready for that.

Having said all that, I took a shot at a valuation based on what I read. I came up with an intrinsic value of around $108 million or $40/share. My estimate is based on the following factors:
• Sales of $63 million and net income of $0.95.share for 2010 (after adjustment for taxes and amortization of acquired technology).
• Growth of Marvell sales of 50% in 2011, 30% in 2012 and 2013.
• Growth of own sales of 40% in 2011 and 30% in 2012 and 2013 with 72% gross margin on own sales.
• Growth of 10% in research and development and sales, general and administrative costs for 2012 and 2013
• No income taxes
• Earnings on accumulated cash of 3% per year.
• Earnings growth of approximately 15% from 2014 through 2019
• 3% earnings growth thereafter through 2039
• 11% discount rate.

To invest in this Company, you will have to have faith in management's vision and the proposition that the Company's processors provide more flexibilty to customers at a lower cost than other processors. I was unable to independently verify management's assertions regarding this proposition. Consequently, I am not quite ready to plop down $32/share for a chance at $40. If anyone can help me with information on the market for CESR processors and prospects for EZchip market share I would appreciate it. Any additions or corrections would be helpful as well.


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