Infinera's Bull Case
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I have been a bear when it comes to Infinera (NASDAQ: INFN). But to balance my views, here is a bull case for your consideration.
No bull case would be complete with mentioning that Infinera’s DTN-X platform has won numerous awards and is regarded by many as the best technical 100G solution that drives the lowest total cost of ownership results. This, if all other things go wrong, is a safety blanket for Infinera and should make them an interesting acquisition target for which a premium is likely to be paid.
Second, the battle for small cells is exploding. Why is that important? Because I think it is causing a distraction away from the optical business for Infinera’s competition, which may actually play into Infinera’s advantage to open those Tier 1 doors.
All the large equipment vendors are chasing the next big wave in infrastructure investments: 3G and 4G/LTE outdoor small cell deployments. Small cells are small cell towers that can be placed on walls, on top of light poles, bill boards, and many other sites. As we continue to generate more data traffic with our smartphones and as we expect better and better mobile service demanding access to high-speed connectivity anywhere at any time, mobile network operators’ macro cellular networks (e.g. large cell towers) get congested and cause both capacity as well as coverage gaps, which will negatively impact our customer experience while accessing the internet on their network. In a saturated market it is more important, and cheaper, for mobile network operators to retain their customers then acquiring new ones.
The small cell market is going to be a high growth market throughout 2016. Forecasts published by Alcatel-Lucent (NYSE: ALU), who is recognized as the leader in this technology, point towards the following estimated spending on small cells by service providers worldwide:
- 2013: $0.5 billion / 750,000 units
- 2014: $1.0 billion / 1.25 million units
- 2015: $1.6 billion / 2.0 million units
- 2016: $2.0 billion / 2.5 million units
Infinera’s competitors consider wireless critical to their success, and therefore will prioritize securing this segment over optical.
So assuming that Infinera can make inroads with DTN-X with their existing Tier 2 customer base, but also with the Tier 1's, the opportunity becomes really appetizing. Research points to the Optical market (which includes SDH, SONET, DWDM) to be a $13 billion market in 2011. This market is expected to grow at about 7% year on year. The DWDM segment, Infinera’s sweet spot, is expected to grow at 12% annually.
Infinera currently generates about $400 million annually and has about a 2.5% market share. This compares to Huawei with 23%, Alcatel-Lucent with 18%, and Ciena (NASDAQ: CIEN) with 9%.
It actually does not have to take that much to turn Infinera from a $400 million per year company into a $1 billion revenue company over the next 5 years, which is in line with the expectation set by Infinera in their third quarter earnings call: 20% year on year growth going forward. If you are a bull and you think Infinera will be successful in securing contracts with Tier 1's, you have to believe that $1 billion by 2017 is still conservative.
Why? If you look at the market share growth rates for some specific vendors between 2010 and 2011, you will see that several companies significantly improved their market share position, without having a technically differentiated product that drives a significant better value for the service provider over the life of the investment.
- Ciena grew its market share from 7% to 9%, or 30%
- Cisco from 4.5% to 6.0%, or 35%
- ZTE from 6.4% to 7.5%, or 18%
Applying the 20% year on year growth rate, starting with a market share of just 2.5%, and assuming that total optical spend remains flat (which is not the case), it would take Infinera to 6.2% market share in 5 years. Using the market share numbers at the end of 2011, that would still rank Infinera behind Huawei Alcatel-Lucent, Ciena, ZTE, Fujitsu, and about on par with Cisco. A number 7 ranking is not what would expect for a company with the best product delivering the best business value to its customers. At a minimum, you would expect Infinera would to surpass Ciena for the number 3 spot. In 2011 Ciena had a 9% share of the market.
In a flat market, a 9% share would be equivalent to $1.2 billion in revenue, 20% above the $1 billion Infinera management is targeting in 2017.
In “only” a 5% growth market, a 9% market share is equivalent to $1.5 billion in revenue in 2017.
If you are a bull, at these prices, I would open up a position now.
BEF1973 has no positions in the stocks mentioned above. The Motley Fool owns shares of Infinera. Motley Fool newsletter services recommend Infinera . 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!