ADVA Optical Networking: Waiting For The Rebound

ADVA (ADV.DX) continues to see a challenging trading environment, with general economic conditions and 4G capex priorities dampening current demand. Q113 results came in at the top end of guidance, remaining profitable despite the revenue decline. The company expects a similar demand environment in Q2, and is focusing spending on strategic R&D and sales support, while controlling all other costs. We continue to forecast a return to growth in H213, but have revised down our revenue forecasts for FY13-15 to reflect lower than expected guidance for Q2 and weaker medium term growth prospects.


Q113 results at top end of guidance
ADVA reported Q113 revenues and operating profits at the upper end of guidance. The market remains tough, with a combination of the weak economic environment pressuring enterprise budgets, and carriers still focusing capex on 4G build-outs. The company continues to focus R&D investment on growth areas such as SDN (software defined networking) and 100G technology.

Estimates cut on weaker outlook
Guidance for Q213 was lower than our forecast (range €73-78m vs our €83.3m) resulting in lower profitability guidance (operating margin -2% to +2% vs our 5.1%). We have cut our Q2 revenue forecast to €77.3m and lowered our growth forecasts for H213. As ADVA believes average longer term growth will be high single-digit, we have also cut revenue growth assumptions for FY14-15. This results in cuts to our EPS forecasts of 29% in FY13, 21% in FY14 and 17% in FY15. Our forecasts assume that ADVA returns to quarterly y-o-y growth from Q3, triggered by the need for carriers to invest in network capacity to deal with ever increasing data volumes.

Valuation: Preparing for order inflection
Although current trading is difficult and there is no clear near-term catalyst, we believe the medium-term investment case remains compelling: the Optical and Ethernet segments offer structural growth driven by the bandwidth strains felt by networks. With its exclusive focus on growth niches, ADVA is not compromised with legacy technologies; its strong balance sheet means new product development is enabling it to significantly expand its addressable market and offset some of the general market weakness; and in a difficult trading climate ADVA may benefit from sector consolidation. On a current year P/E of 18.9x and EV/sales of 0.5x, the shares continue to trade at a discount to peers (P/E 23.5x and EV/sales 1.3x) and our DCF (€4.55).

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