DRIVER: Cloud Computing
SOLUTION: High Bandwidth Optical Components
SIZE: Sales $180M(est), Profit $6M(Est), Employees 2,990
MODEL: 17% Growth, 30% GM, 4% OM, Margins Expanding
ADVANTAGE: Vertically integrating photonics with mainstream IC manufacturing methods which improves performance and lowers costs.
VALUATION: Our IV IS $13-14 versus the current $9-11 filing range.
• Cloud-based applications, in both consumer and enterprise markets, along with richer content types like HD/3D images and video, are making applications much more data intensive.
• Carriers are upgrading access speeds by moving to 4G wireless technology and bringing fiber closer to or into the home. At the same time, the number of devices at every access point is multiplying.
• The combination of higher speed access with data-intensive applications puts a huge strain on core network capacity and is driving a major shift from 10Gbps networking to 40Gbs and 100Gbs.
• This translates into improving demand for high speed optical networking technology and equipment, which is the core market served by NeoPhotonics.
• NeoPhotonics has some important process advantages that allow them to deliver devices with better price/performance characteristics than competitors.
• A fairly conservative base case generates an Intrinsic Valuation (IV) of $13-14/share, which compares favorably to the current $9-11/share filing range. If revenue growth accelerates there is upside to our current IV estimate.
POSITIVES, NEUTRALS, NEGATIVES
+ Demand for high-speed integrated semiconductors to support high-bandwidth communications and intensive graphic processing is large and growing.
+ NeoPhotonics is delivering a solution to system-makers that brings together unique advantages differing from traditional silicon-based integrated circuits and optical devices.
+ NeoPhotonics is a supplier to a broad range of top-tier system-makers including Alcatel, Ciena, Cisco, ECI Telecom, Ericsson, Fujitsu, Huawei, Mitsubishi, NEC, Nokia, and ZTE.
+ Photonic Integrated Circuit (PIC) technology is a key element in the scaling up of silicon-based semiconductor technologies to meet future demands. NeoPhotonics has achieved leadership in this area and has a broad range of experience and IP to sustain their advantage.
+ Management team and board have been together for some time and experienced many facets of the market, including early slow adoption, acquisitions, scale manufacturing and international expansion.
+ Operating margins are positive and expanding, helping to reward equity holders as the company grows.
= Although bandwidth demand is in a secular uptrend, the spending can be “lumpy” as perceptions about growth and access to capital varies considerably.
= China provides manufacturing efficiency but for some investors also entails a degree of operational risk. (2,598 of the 2,748 total employees of NeoPhotonics are based in China.)
– The industry gross margins average 36%, and thus companies in the industry have had lower operating margins and poorer returns on invested capital than other areas.
STOCK AND VALUATION
NeoPhotonics has proposed a filing range of $9-11/share. Our IV model (Attachment A) is included at the end of this report and suggests that $13-14/share is a reasonable market clearing price.
An analysis of comparable companies that includes both valuation and recent stock performance (Attachment B) is also provided. In reviewing NeoPhotonics versus the averages, it’s notable that the company is generating slightly better than average operating margins on an average gross profit level 10% below the average. The average TEV/Revenue multiple is 2.4x versus the 1.4x for NeoPhontonics at the mid-point of the filing range.
NeoPhotonics is well positioned to benefit from the trends of denser content and more usage because they provide a key element to expand network capacity. The company has several strong competitive advantages including an efficient, vertically integrated process to deliver a broad range of photonic networking solutions on a chip. We’ve discussed the power of bringing new capabilities to silicon and it represents a fundamental long-term growth area.
The full report with additional roadshow notes, valuation and comp tables will be sent out to our email list later today.
- NIST advances single photon management for quantum computers (scienceblog.com)
- Electricity and Light in One Chip (technologyreview.com)