PWAV: As They Say Down In Irvine: "Amplification Happens."
Deutsche Banc Alex. Brown - US Equities
Brian T. Modoff,Ian W. Toll
July 15, 1999
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POWERWAVE TECHNOLOGIES INC. [PWAV] "STRONG BUY"
As They Say Down In Irvine: "Amplification Happens."
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Date: 07/15/1999 EPS 1998A 1999E 2000E
Price: 34.94 1Q 0.13 0.11 NE
52-Wk Range: 37 - 6 2Q 0.11 0.20A NE
Ann Dividend: 0.0 3Q 0.01 0.20 NE
Ann Div Yld: 0.00% 4Q 0.04 0.27 NE
Mkt Cap (mm): 716 FY(Dec.) 0.29 0.79 1.10
3-Yr Growth: 25% FY P/EPS NM 44.2X 31.8X
CY EPS 0.29 0.79 1.10
Est. Changed Yes CY P/EPS NM 44.2X 31.8X
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Industry: COMMUNICATIONS TECHNOLOGY
Shares Outstanding(Mil.): 20.5
Return On Equity (1998) : 15.0%
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HIGHLIGHTS:
*Sales of $68.5 million and EPS of $0.20 versus our estimates of $57.5
million and $0.14 and Street consensus $0.14.
*Substantial gains in market share with existing customers, inroads into
new customers, strong operating discipline, and indications of continued
rapid growth.
*The company continues to convert trials in sales at a very impressive
rate.
*Believe the book-to-bill was 1x or better, despite the fact that 2Q sales
were a record high and we are going into a seasonally slower quarter.
*Good customer balance, with 72% of sales to North American customers and
17% from South Korea.
*We are raising our estimates, establishing a new 12-month price target,
and reaffirming our STRONG BUY rating on the shares.
DETAILS:
Powerwave Technologies, now incontestably the industry's leading
independent RF power amplifier vendor, has substantially exceeded Street
expectations for the second consecutive quarter.
The company reported sales of $68.5 million and EPS of $0.20 versus our
estimates of $57.5 million and $0.14. The Street consensus was also $0.14.
Results were strong across the board, reflecting substantial gains in
market share with existing customers, inroads into new customers, strong
operating discipline, and indications of continued rapid growth. We are
raising our estimates, establishing a new price target, and reaffirming our
STRONG BUY rating on the shares.
Powerwave has very quietly but steadily built commanding market share in a
vital communications market segment. The company's customers now include a
formidable and well-balanced base of major wireless OEMs and operators.
Market shares of sales to these customers, and expansion of the customer
base to new customers, continues to progress at a very impressive rate.
Management is now beginning to emphasize, both in their words and in the
allocation of R&D spending, establishing a strong and early competitive
position in 3G (third generation) wireless, so the company looks to set to
extend its market dominance well into the future.
Strong sales growth of 225% yr/yr was matched by good customer balance,
with 72% of sales to North American customers and 17% from South Korea.
Nortel, which has accounted for more than half the company's sales for the
past two quarters, was down to 44% of sales (despite growing in absolute
terms), and Lucent also exceeded 10% of sales. Sales to Ericsson are also
growing rapidly. Sales to operators grew strongly, and the company now has
substantial sales volumes to GTE (announced in June), BellSouth, and
another major RBOC that the company does not yet wish to identify by name.
The mix of multicarrier and single-carrier amplifier sales was about 50/50.
The company expects the mix to remain at about that level. Gross margins
on multicarrier is in the 40's, and single-carrier in the 20's.
The company continues to convert trials in sales at a very impressive rate.
The company started the quarter with six trials that converted to sales.
Going into the 3Q, the company started with about eight trials and should
begin six more, and believes that several will convert to revenue producing
accounts. The company is currently in trials related to third generation
(3G) wireless amplifiers with a major European OEM, and expects to make
that relationship public in the next few months. Management sees this as
an opportunity to expand sales, including current generation sales, with
this OEM.
Although the company does not disclose bookings, we believe the book-to-
bill was 1x or better, despite the fact that 2Q sales were a record high
and we are going into a seasonally slower quarter. Based on management
comments, we believe that backlog and visibility are extremely strong, and
that the company is likely to continue to achieve exceptionally strong
results in the second half of the year.
Accounts receivable DSOs rose to 55 days from 49 days in the 1Q. The shift
toward an OEM customer base has forced DSOs up and may continue to do so.
Management expects the DSOs to stay in the 60-day range. Inventory turns
improved to a very impressive 9.9x. Inventories at $20.2 million
represented a reduction of $10 million sequentially.
GROSS MARGIN
As generally expected, gross margin came in lighter than what we believe is
the sustainable long-term level for the company. The 2Q gross margin was
26.5%, versus our forecasted 28.1%. Essentially, the gross margin has
fallen victim to the company's unexpected success in generating very strong
sales growth in the past two quarters. Management has made a strategic
decision, which we fully support, to place the rapid fulfillment of
customer demand above the consolidation process. We see this issue as
temporary and likely to be corrected rapidly as capacity is added, as
discussed in greater detail below.
In a nutshell, unexpectedly high customer demand has (a) required the
company to run its Folsom, California manufacturing facility (acquired from
HP) at or near full capacity rather than consolidating all manufacturing in
Irvine, and (b) forced the company to scramble to add manufacturing
capacity at its main Irvine, California manufacturing facility.
When the HP acquisition was first announced last September, the company had
planned to consolidate all manufacturing (including the HP products) in
Irvine and sell the Folsom facility. Because that consolidation has taken
longer than expected, additional costs have pressured the gross margin. In
addition, the company has had to add capacity in Irvine (even with Folsom
running) including equipment purchases and training of new hires, and that
has added additional pressures on cost of sales.
The company has successfully transferred three of four HP lines to Irvine
and has started the transfer of the fourth line, to be finished by 4Q99.
In addition, the company expects to complete the sale of the Folsom
facility today for $8.4 million, and will maintain the building under a
sale/lease-back arrangement through the end of the year. The remaining R&D
engineers in Folsom will move into a smaller building at or before that
time. In addition, the company plans to lease a new building adjacent to
its existing facility for sales and engineering personnel in Irvine, and
then use the freed-up space in Irvine to expand manufacturing capacity.
During the course of the 2Q, the company saw sequential improvement in
gross margin as the quarter progressed. In other words, the spike in cost
of sales that pressured gross margin was concentrated in the early part of
the quarter, and the gross margin run rate should be higher going into 3Q.
We are modeling a gross margin recovery to 29.1% in 3Q, 31.5% in 4Q, and
33.0% in 2000.
In our view, management has done a good job of educating the Street about
this problem (if it can be called a problem). It was discussed at length
during the 1Q call and we believe that management is presenting an accurate
and thorough picture.
CONCLUSION
Based on a very strong sales outlook combined with an improving gross
margin, we believe Powerwave is likely to sustain very strong performance
through the remainder of the year. We are adjusting forecasts as follows:
Prev. Revised
3Q 1999 Sales $53.5 mil $63.0 mil
3Q 1999 EPS $0.15 $0.20
1999 Sales $228.3 mil $257.5 mil
1999 EPS $0.68 $0.79
2000 Sales $262.5 mil $285.0 mil
2000 EPS $1.05 $1.10
Our price target is $45, based on a multiple of >40x our conservative 2000
EPS estimate. We reaffirm our STRONG BUY rating on the shares. |
