Why Shares of EZChip Semiconductor Ltd. Crashed Today

By Markets Fool.com

Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.

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What: Shares of EZChip Semiconductor , a developer of processors used in networking equipment, declined by 24% on Wednesday after the company used its first-quarter earnings report to announce that Cisco doesn't plan to use EZChip's NPS-400 network processors in its next-generation router line cards.

So what: EZChip's first quarter was solid, and its guidance was in line with analyst estimates, but the Cisco announcement was all that the market seemed to care about. The company reported revenue of $26.9 million during the first quarter, up 32.6% year-over-year and slightly higher than what analysts were expecting. Non-GAAP EPS of $0.24 beat analyst estimates by a penny.

Cisco is EZChip's largest customer, accounting for 35% of the company's revenue during the first quarter. Cisco currently uses EZChip's NP-5 product in its routing platform, and with a typical period of three years between network processor generations, EZChip expects to generate revenue from Cisco for years. Cisco is planning to use an in-house solution for its next-generation product, but EZChip doesn't expect any negative effects for at least three years.

Now what: While EZChip's revenue won't take a hit for a few years due to Cisco's decision, this news brings EZChip's growth prospects into question. The company talked about several of its non-Cisco design wins for NPS-400 during its conference call, but this will likely be a big headwind going forward.

It's possible that Cisco will ultimately decide to go with EZChip's products instead of an in-house solution. EZChip stated in its press release that it believes that Cisco's next-generation line cards will need higher throughput than the NPS-400 can provide, and that it is currently developing the successor to the NPS-400 that meets these needs. If Cisco does stick with an in-house solution, EZChip could face a major revenue cliff in a few years.

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The article Why Shares of EZChip Semiconductor Ltd. Crashed Today originally appeared on Fool.com.

Timothy Green owns shares of Cisco Systems. The Motley Fool recommends Apple and Cisco Systems. The Motley Fool owns shares of Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.