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Marvell Technology Inc. (MRVL), the semiconductor manufacturer based in Delaware, is showing large unusual call options activity today. This highlights the stock's value, based on its strong free cash flow and AI demand growth. This could also be a copycat effect from the huge popularity of Nvidia (NVDA) stock.
The Barchart Unusual Stock Options Report today shows this large unusual call option volume in MRVL stock. The Report indicates that over 2,500 call option contracts were traded in the $63.00 strike price expiring on March 28.
Given that MRVL stock is trading today at $65.24, this means that these call options are in-the-money (ITM) by $2.24 per contract (i.e., $65.24-$63.00). The price of the calls traded was $3.05 in the mid-price, which means that there is $0.81 of extrinsic value in the premium (i.e., $3.05-$2.24).
That means that the investors in these call options hope that the stock will rise over $66.05 per share (i.e., $63.00 strike price + $3.05 premium) before closing on March 28. That represents a potential upside in MRVL stock of 1.24% (i.e., $66.05/$65.24-1).
These investors in MRVL ITM calls are finding it easier to buy calls and potentially make a huge gain. There were 23 times the normal outstanding number of call options traded at this strike price. This implies that they believe that MRVL stock could rise between now and the end of the month.
For example, assuming the stock hits $70 on or before March 28, the intrinsic value of the options would be $7.00 (i.e., $70-$63 strike price). That implies the purchasers of these calls at $3.05 would more than double their money (i.e., ($7.00/$3.05-1)x100 = 129.5%. And this would be just with a 7.3% increase in the value of the stock (i.e., $70/$65.24-1).
Why would the investors make this investment? Is the stock undervalued? I can make a case that it looks cheap here, although this is on a long-term basis.
Free Cash Flow Strength
First, the bad news and why the stock is cheap. On March 7, Marvell Technology reported just a 1% increase in Q4 sales for the quarter ending Feb. 3 and a decrease of 6.96% in sales for its fiscal year.
However, Marvel said its non-GAAP net income was $401.6 million on sales of $1,427 billion for the quarter. That represents a strong 28.1% adj. net income margin. Moreover, its free cash flow (FCF) for the quarter came in strong at $475.6 million, which represents an FCF margin of 33.3%.
Therefore, despite the weak sales the company is very profitable. In addition, Marvell Technology says its data center and AI-related sales are strong. This is also what is powering Nvidia.
Moreover, the company was able to not only pay a dividend from its FCF but also buy back shares.
Going forward, analysts project $5.32 billion in sales for the year ending Jan. 2025 and $7.01 billion for the following year. That puts it on a run rate of sales of $6.165 billion sometime in the next 12 months (NTM).
So, applying a 33.3% FCF margin to this NTM revenue estimate shows that FCF could exceed $2 billion (i.e., $6.165b x 0.333 = $2.05 billion FCF). That is almost double the $1.034 billion in FCF it made during its FY ending Feb. 3, 2024.
Moreover, if we apply a 3% FCF yield metric to this $2 billion FCF estimate the market cap could eventually reach $68.3 billion. That is 21% higher than its existing $56.34 billion market cap. In other words, we can make a case that, on a long-term basis over the next 12 months, the stock looks to be at least 21% too cheap.
The bottom line here is that investors might be overlooking the underlying value of MRVL stock. One way to play this is to buy in-the-money (ITM) calls, especially if you believe the stock is due to rise in the near term.
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.
