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Fabless semiconductor company Mellanox Technologies Ltd. (MLNX - Snapshot Report) reported fourth quarter 2012 earnings of 47 cents per share (including stock-based compensation), which fell short of the Zacks Consensus Estimate of 55 cents.

Earnings per share were down from the previous quarter to $1.14 but improved from 17 cents in the year-ago quarter.

Revenue

Total revenue for the quarter was up 68.1% year over year but was down 22.0% sequentially to $122.1 million. Reported revenue beat the Zacks Consensus Estimate of $120 million. The sequential decline was due to a cabling issue related to the FDR (Fourteen Data Rate) InfiniBand products.

Hewlett-Packard Co. (HPQ - Analyst Report) with 14% and IBM Corp (IBM - Analyst Report) with 17% were the two customers who accounted for 31.0% of the total revenue.

Margins

Gross profit (including stock-based compensation) was up 75.6% from the year-ago quarter to $85 million. However, gross profit declined 21.6% sequentially due to lower revenue base. Gross margin for the quarter stood at 69.6% compared with the year-ago level of 66.6% and 69.3% in the prior quarter.

Total operating expenses jumped 46.6% year over year to $58.8 million. This was primarily due to a sharp rise in research & development (up 43.8% year over year), sales & marketing (up 41.6% year over year) and general & administrative expense (up 73.2% year over year) in the quarter.

Despite higher operating expenses, operating profit (including stock-based compensation) jumped to $26.2 million from $8.2 million in the year-ago quarter, driven by strong revenue growth and higher gross margin base. However, operating income was down sequentially from $51.5 million due to lower revenue base.

Net income (including stock-based compensation) also increased to $20.7 million from $7.02 million in the year-ago quarter. However, net income was down from $50.7 million in the previous quarter.

Balance Sheet

Mellanox exited the quarter with $426.3 million in cash and investments versus $397.7 million in the previous quarter. Cash flow from operations was $25.4 million compared with $74.4 million in the previous quarter.

Guidance

For the first quarter of 2013, total revenue is projected in the range of $78 million to $83 million and gross margins in the range of 67% to 68%. Operating expenses are expected to increase 6.0% to 8.0% on a sequential basis.

Recommendation

Mellanox reported a mixed fourth quarter and provided tepid revenue guidance. But we believe that Mellanox’s product offerings will such as InfiniBand products, particularly from the high performance computing, cloud data centers and web 2.0 markets to help the company provide top line growth.

However, sluggish macroeconomic environment, and increasing competition from its peers such as QLogic (QLGC - Analyst Report) may act as headwinds going forward. Moreover, customer concentration could be another headwind for the stock.

Currently, Mellanox has a Zacks Rank #5 (Strong Sell).

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