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Silicom (NASDAQ:SILC) recorded seven major design wins in 2021 which I chronicled in my November 2021 article linked here. So far in 2022, the company has announced an additional three large wins linked here. The latest win is another SD-WAN game changer with $25 million in annual revenue predicted starting in 2023 and $15 million in orders for 2022. This combines with a huge win in November 2021 which started with $30 million in purchase orders and expects to ramp up to more than $50 million a year in coming years. These all come on a base of $128.5 million in 2021, so together these wins can add $75 million or 60% to revenue in 2023. All of these design wins have led to record backlog for Silicom at the end of Q1 2022.
Why haven’t all of these 10 design wins had more impact on Silicom’s current P&L? The supply shortages that have been constraining cars, PCs, and pretty much any other kind of electronic device have had their impact on Silicom as well. Executing well in this supply constrained environment Silicom grew revenue 20% in 2021 and 11% in Q1 2022. But demand, as evidenced by the 10 large design wins, has been much greater, leading to the record backlog. Silicom, like many others, sees these supply constraints lasting through 2022 and into 2023.
So why is now the time to pay close attention to SILC? Silicom spotted these supply challenges early and has adapted to them in two ways. First, the company has used its large cash position to purchase inventory when available to enhance its ability to ship as the year goes by. Inventory reached $95 million at the end of Q1, with the ability to support more than $200 million in revenue. Second, Silicom started redesigning some of its products last year to use more parts that were readily available. These redesigned products will begin shipping at the end of Q2 and will ramp in Q3 and Q4. Thus, even if the supply constraints do not get better Silicom will be able to ramp revenue in the second half of this year.
So what is Silicom’s current valuation and what is it intrinsically worth? Currently SILC trades at an Enterprise Value to 2022 Revenue ratio of 1.3x and at an adjusted P/E ratio of 11.2x. The P/E ratio is adjusted for the large $6.31 net cash position on its balance sheet. This valuation would be about right if Silicom wasn’t growing and was at maximum operating margins. Neither of these two assumptions is true, of course. Silicom is growing at an accelerating pace and 2021 margins are roughly half of where they could be if the business scales as I think it can. By 2025 I think Silicom can be doing $300 million in revenue and have 19% operating margins, leading to $7.80 in EPS. By then the company’s cash position could be at $25 per share through accumulation of net income until then. Putting a 20x P/E multiple on $7.80 in earnings plus $25 in net cash gets you to a $180 stock price or a 430% gain from current levels. This gives you some sense on why I am so bullish on the shares.
