Updated from Oct. 15

QLogic

(QLGC)

was up 4.5% Thursday on the strength of an upgrade by Merrill Lynch and a stronger-than-expected earnings report.

Although there was some feeling on Wall Street that the company's future earnings may not be able to support its rich valuation, Merrill analyst Shebly Seyrafi upgraded the stock to buy from neutral and set a one-year price target of $65 a share. In recent trading, shares of QLogic were up $2.31, or 4.5%, to $53.79. (Merrill Lynch has an investment banking relationship with QLogic.)

In the second quarter, the enterprise storage vendor earned a record profit of $34.2 million, or 35 cents a share, a year-over-year increase of 49%, according to generally accepted accounting principles. Revenue in the September quarter was $132.3 million, compared to $108.5 million a year earlier.

Pro forma net income was 37 cents a share, 2 cents better than the consensus of analysts polled by Thomson First Call. Revenue was also above expectations -- Wall Street forecasted $130.7 million.

Fibre channel technology revenues for the second quarter were up 8% sequentially to a record $101.0 million and represented 76% of the company's total revenue, as the market continues its shift away from SCSI technology.

Gross margins were up sequentially by 130 basis points to 68%, as a result of a product mix that favored higher-margin dual-port host bus adapters, the shift to fibre channel and continued increases in manufacturing efficiencies, the company said. However, the product mix may not be as strong in the current quarter, meaning that margins could slip a bit.

Overall, the company told investors to expect EPS in the December quarter to range from 34 cents to 38 cents on sales growth of 2% to 5%, equal to Wall Street's expectations.

But given the company's high valuation, about 35 times forward earnings, some investors were hoping for stronger guidance, Steve Berg, an analyst with Punk Ziegel, said shortly after earnings were announced. "This is the fifth quarter in a row the company has guided for revenue growth of 2% to 5%." His firm does not do banking with QLogic.

Asked during a call with analysts when to expect more on the top line, CFO Frank Calderoni said that despite more stability in the environment, neither visibility nor the size of orders have improved enough to make a more robust forecast.

QLogic's major product, host bus adapters, or HBAs, are a key component of most storage area networks, a technology that helps large companies manage massive amounts of data by storing it on its own network. QLogic and

Emulex

(ELX)

dominate the HBA market.

Earlier in the week, Merrill Lynch resumed coverage of QLogic and five other enterprise storage stocks, saying network storage companies should generally do well in the future, but that pricing pressure will affect profitability. Valuations in the space remain rich, Merrill noted.