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2HRS2GO: Value judgements bounce Maker around

With the U.S. Open coming this month, think of Maker Communications Inc. (Nasdaq: MAKR) as a tennis ball.

Investors served up this stock the moment it went public in May. The IPO opened at 13 and within two months had shot as high as 53 3/4, a rocket ride sufficiently steep to convince two of the company's three underwriters that the stock was getting ahead of itself. Lehman Bros. and Salomon Smith Barney cut Maker to "hold" in early July, and shares slid almost 50 percent over the next three weeks.

That brings us to today's action. Maker gained a couple of points in the first few hours of trading today, following Lehman's and Salomon's decision to do a 180 within three weeks of the last ratings change. Before the market opened, the brokerages bumped Maker back up to "outperform".



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Given the recent hype over networking chips, investors' enthusiasm for Maker is easy to understand, if not necessarily agree with. Maker's programmable chips allow different types of networking equipment to communicate, so that hardware based on, say, asynchronous transfer mode (a circuit based technology) can work with packet-based IP networks. Maker's customers include all the big guns of networking equipment: Ascend, Cisco, Fore, Lucent, Nortel, and so on. Those first three each account for more than 10 percent of Maker's revenue, which isn't as much of a worry as you might think, since the trio (particularly Cisco) also happens to dominate the industry as a whole.

Maker's fundamentals remain strong, Salomon analyst Clark Westmont notes. Westmont believes Maker will double its sales this year, and see more design wins actually go into production. "As programmable network processors gain further attention in investors' consciousness, Maker will likely be seen as the best pure-play investment vehicle in the space," Westmont writes in a research note released this morning.

Salomon and Lehman believe Maker has become cheap on a relative basis. "The stock's recent retreat has brought its valuation in line with its peers," Lehman's research department says.

That's certainly true on a book value basis. Maker closed last week at nine times book value, which looks more than reasonable compared to networking chip manufacturers such as PMC-Sierra (32 times book), the soon-to-be-acquired Level One Communications (12.5 times book), or Broadcom (48 times book).

Call me naive and simplistic, but is it really fair to compare the asset valuation of a fabless operation like Maker with those of companies that actually own large plants and warehouses? Maker pays others to do its manufacturing, so for all intents and purposes, the company is a design, research and development firm. In that sense, it's a little more like Rambus than Level One (which, incidentally, doesn't compete with Maker; not only is Level One a Maker shareholder, but the two companies also have an agreement which requires the latter to share its technology with the former).

Try valuing Maker on a multiple of earnings, which is a more universally applicable measurement. Unfortunately, if you look at Maker as a multiple of the bottom line rather than the balance sheet, the stock doesn't look so reasonable. First Call's consensus estimate pegs Maker at 6 cents per share for this year, which means the stock closed Friday at 462 times estimated earnings. On the other hand, PMC-Sierra ended July with a P-E of 89, Level One closed at 49 times earnings, and even investor favorite Broadcom finished at a "mere" 159 P-E ratio.

No offense to Maker, but it doesn't deserve the same P-E ratio as America Online or Yahoo. Those companies (which probably don't deserve their multiples either, but there's no use trying to stop the sea) are established leaders in their market, while Maker remains just an fascinating play in a market still up for grabs. Note that Needham & Co. -- the one investment firm that follows Maker and is not an underwriter of the stock -- so far is keeping Maker at a "neutral" rating. It's easy to see why.

Other issues:

  • Media Metrix Inc.
  • (Nasdaq: MMXI) The Web traffic counter reports quarterly results this afternoon. First Call expects a loss of 17 cents a share for the June quarter.

  • Online brokerages
  • Looks like Instinet is getting closer to moving online, but Charles Schwab, E*Trade, Ameritrade, DLJDirect, Datek and National Discount Brokers needn't worry yet. True, Instinet already commands a significant portion of Nasdaq traffic, but size means nothing. If it did, Merrill Lynch, PaineWebber and the rest would already be raging successes online.

    Broad market indices were cooling off in the afternoon as enthusiasm over purchasing statistics faded. With two hours left in regular trading, the Nasdaq Composite Index was up 8.68 to 2,647.17, the S&P 500 higher by 8.53 to 1,337.25, and the Dow Jones Industrial Average up 77.25 10,732.40. 22GO>

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