Sonus Networks, Inc. (SONS): Project Lightspeed and Cingular Spending
Acceleration to Drive 2008-2009 Revenue Growth; Potential BT Win
Could Provide Upside
Executive Summary
Our channel checks reveal increasing traction at AT&T and high
probability of a win at BT. Together the data points increase our
confidence in SONS' growth prospects for 2008-2009; we are revising
our estimates upward in light of these developments. In addition to
impact on numbers, each of the following could act as positive
catalysts for the stock: (1) AT&T wireless budget increase for 2008;
(2) AT&T Project Lightspeed related VoIP deployments using SONS; and
(3) win at BT, even if it is dual-sourced with NT.
AT&T update:
Expanding footprint into Project Lightspeed. Our industry checks
indicate SONS is increasing traction at AT&T, its largest customer,
on both the wireline and wireless side. We expect AT&T related
business for SONS to accelerate in 2008, growing more than 30% versus
flattish in 2007.
Wireline: BVOIP and Call Advantage related sales healthy. While
investor perception is that SONS is primarily leveraged to the
wireless side of AT&T (Cingular), the reality is that it is just as
firmly entrenched on the wireline side as well. On the wireline side,
SONS is currently being deployed for VoIP service to both business
(BVOIP - Business Voice over IP) and retail (Call Advantage)
customers. In fact, we believe that even as wireless network
deployments at AT&T slowed in 1H07, wireline related sales remain
strong; we expect this momentum to continue through 2008.
Wireline: Project Lightspeed creates new opportunities; SONS now
designed in. Retail VoIP at AT&T has had fits and starts, as mega
mergers between AT&T Classic, BellSouth and SBC has dramatically
changed the retail customer base-and brought new voice architectures
and vendors under the AT&T umbrella. While AT&T is proceeding with
its "Call Advantage" program, there has been a question mark on what
role VoIP will play in AT&T's Project Lightspeed "triple play"
offering. Currently the triple-play service bundle includes
traditional voice offering and not VOIP. However, according to our
latest checks, AT&T will offer VoIP as part of its triple play
service by 2009 and is planning to deploy VoIP gear in 2008 to enable
this new offering. It is important to note that SONS has been
recently designed in as one of two VoIP vendors and should benefit
from related deployments in 2008 and 2009.
Wireless: While AT&T's wireless network related spending was soft in
1H07, our checks suggest there is moderate acceleration in 2H07. For
2008, we now expect a significant ramp in wireless capital
expenditures, on the order of 20% y/y growth. This indicates that
SONS's Cingular related sales into AT&T should begin to pick up in
2H07 off 1H07 levels and then a meaningful acceleration in 2008
versus 2007 levels.
BT update:
In our note titled "Secular Growth Play Leveraged to VoIP Upgrades;
2H07 Recovery Creates Upside Opportunity; Resuming Coverage with
Overweight" dated September 24, 2007, we identified BT as a potential
Tier-1 win for SONS in 2008, as the operator looks to replace an
existing VoIP vendor. We now believe with high probability that SONS
will win this deal. Depending on whether it ends up being a single-
handed or dual-source deal, SONS revenues share is likely to be in
the $30-50mn range. However, given timing of deal and revenue
recognition issues, we do not expect the revenues to hit SONS numbers
till 2H08.
Taking estimates up: Given our conviction on the AT&T acceleration
and BT win, we are taking our 2008 and 2009 estimates up.
SONS valuation: In our view, based on a number of valuation metrics,
SONS is currently trading at a discount versus its growth
opportunity. (1) On a P/S basis: The stock is trading at about 4.2x
on CY08 estimates, toward the lower end of its three-year historical
range of 3x to 6x. If our investment thesis materializes, the stock
should support a P/S multiple in the 5-6x range, toward the higher
end of its historical range, yielding a fair value between $8-9. (2)
On a P/E basis: Given our view that SONS can grow its earnings at a
30% normalized rate over the next three years, we believe the stock
can support a P/E multiple of 25-30x FTM earnings; based on our 2009
estimates, this methodology yields a price range of $7.50 to $9.00.
(3) On a DCF basis: Our five-year discounted cash flow model, with
reasonable parameters, yields a fair value in the $7.50-9.60 range.
Taking a "middle of the road" approach, we reiterate our 12-month
target price of $8 for SONS. In addition to general market and
macroeconomic risks, the risks to our price target include: (1)
delays in key customer deployments pushing out the revenue growth
trajectory; (2) competitive share loss to larger, more established
equipment vendors and/or to a crop of next-generation players
attempting to enter the VOIP segment; (3) gross margin volatility;
and (4) management inability or unwillingness to contain operating
expenses. |
