Thursday September 13, 2012
by Paul McWilliams, editor Next Inning
Finisar (FNSR) reported results for the July ending quarter and the guidance for the October ending quarter that were both below consensus expectations.
My view has been that Wall Street has been focusing far too much on the near-term and, with that, ignoring what would almost certainly develop in the longer term.
At the base of my bullish thesis for FNSR there are five facts that I believe are indisputable:
1. The market forces that will drive the deployment of higher bandwidth networks are unstoppable and the only way to economically deliver this bandwidth is with fiber optics.
To insure I'm not misunderstood here, fiber connections are needed to support broadband wireless networks; if not in the backhaul where microwave will be used in some percentage of the deployment, most certainly from where the backhaul lands and, from there, throughout the balance of the connections.
2. Data centers are continuing to move away from copper connections and towards fiber connections, and within that trend, towards higher and higher speed fiber connections.
Here we are just beginning to scratch the surface of 100Gbs connections. Sales into data center applications are included in FNSR's datacomm grouping.
3. FNSR is the largest supplier in the world in the product categories it manufacturers and is, by far, the market share leader in data center fiber optics.
4. Due to the fact it can create valuable differentiation in manufacturing, FNSR operates with a high fixed/low variable cost business model.
This means as FNSR's revenue grows its earnings will grow more substantially. I believe FNSR has the potential to more than triple its non-GAAP operating profit margin when it is operating at an efficient revenue level.
5. FNSR has a very strong balance sheet with a net cash value of $1.91 per fully diluted share and an adjusted Net Current Asset (NCA) value of $5.03 per fully diluted share.
So there you have it; a thesis so simple and clear it would appeal to Warren Buffett. What we have is a market where demand will almost certainly grow significantly, and with that, FNSR as the market leader is poised to grow earnings faster than it does revenue.
So the question here is not so much why Wall Street ignored this for so long, but what caused the folks east of the Hudson River to look beyond the continued weakness and see what will almost certainly materialize in the longer term.
While the evidence of increased spending on wireline networks is mostly anecdotal, I believe it is inevitable that it will happen, if for no other reason to support the increased demand for bandwidth that next generation wireless networks will put on the wireline networks that they depend on to carry their signals between towers and throughout the Internet.
Data centers will also see more traffic from wireless devices and, due to that, we'll see the demand there for fast fiber optic connections continue to grow.
FNSR most definitely faces competitive threats. However, as the sector leader in the product categories it addresses, I continue to view FNSR as the proxy investment for fiber optics, and believe as it grows revenue its earnings will grow at a materially faster rate.
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