Inside Wall Street: Emulex Is a Deflated Tech That Could Soon Rise Again

A number of technology stocks have performed amazingly well in spite of the market's wild volatility, including IBM, Intel (INTC) and eBay (EBAY). But many have been ignored, such as Emulex (ELX). Shares of the developer and maker of so-called convergence networking products have mirrored the market's recent plunge, tumbling from more than $14 a share in mid-March, to $8 on Aug. 16. Yet the potential for impressive growth of its products is acknowledged even by its larger rivals, including Broadcom (BRCM), which tried, unsuccessfully, to acquire Emulex last year.

So, some pros are betting that the deflated shares of Emulex, which has a market cap of $677 million, will become one of the strong tech winners when the market snaps back. Already, the stock edged higher, to $8.64, on Aug. 17, when the Dow mounted a rally. Some analysts see it bouncing back up to $14 in a year.

Part of Emulex's growth opportunities rest on its lineup of big clients. It counts some of the major tech companies as customers, including Hewlett-Packard (HPQ), IBM, Cisco Systems (CSCO), EMC (EMC), Dell (DELL), Hitachi (HIT), and Fujitsu (FJTSY), Emulex, which makes storage infrastructure systems that connect storage, servers and data networks, is a leading provider of "fiber channel host adapters" used in storage area networks and other types of storage products.

A Disappointing Quarterly Report

"Emulex continues to build on its impressive client roster for its chief products, mainly the United Converged Network Adjuster products, which can be used for connectivity and bridging" network solutions, says Jim Kelleher, analyst at Argus Research, who rates the stock a buy and expects it to outperform the market over the next year.

The company disappointed investors, he notes, with below-consensus fiscal fourth-quarter earnings as revenue softness at its embedded-storage products business hurt margins, prompting him to shave his earnings estimate for fiscal 2011 (ending June 30) to 46 cents a share from 63 cents. Kelleher also cut his target price to $14 from $17. For fiscal 2012, he expects earnings of 59 cents.

Nonetheless, Emulex appears "attractive at its currently discounted levels," says Kelleher. One reason for optimisim: The company acquired privately held ServerEngines Corp. on June 7, 2010, giving it entry into a new server management-controller market. The addition, Kelleher notes, is a long-term positive that increases Emulex's available market.

CEO Jim McCluney figures the acquisition adds several hundred million dollars and boost to $2 billion (from $700 million) Emulex's addressable market. This new business, he says, would help Emulex clients update servers and win new customers. HP, says McCluney, has selected Emulex's "OneConnect Universal Converged Network Adapter" technology for use in its new HP Proliant G7 blade server adapters. The OneConnect adapter helps clients like HP reduce networking complexity and costs, says McCluney.

"This is a good win for Emulex, with an existing strong customer and should make the relationship that much stickier," says Argus's Kelleher, who says Emulex is focused on bolstering its performance in its own markets. The result is Emulex has had success, he says, in "attacking" some of the core markets of some of its larger rivals, including QLogic (QLGC).

Takeover Target?

Rajesh Ghal, analyst at ThinkEquiity, who rates Emulex a buy, notes that in valuing the stock, most analysts aren't reflecting the potential of Emulex's incremental new business in the Ethernet market resulting from the acquisition of ServerEngines. Emulex's new business in that market, such as the HP contract, has only just begun to ramp up, says Ghal,

And the analyst says investors should remember Broadcom's unsolicited bid last year to buy Emulex for $11 a share, as a reminder of what else could happen. "With Emulex shares now trading well below the bid, a similar offer in the future cannot be ruled out," says Ghal.

With or without a new takeover offer, Emulex may well be an attractive, if ignored, bet that has may yet recover lost ground in the fast-moving tech universe.