Bernstein Reiterates OUTPERFORM RATING On March 24, in the A.M.
Highlights
* Estimates of $1.25 for FY1998 and $1.76 for FY1999, well above consensus estimates of $1.17 and $1.48
* Ascend's business is focused on the ISP/Carrier market, which does not appear to be affected by the industry softness in enterprise markets noted in the first quarter.
* Former Cascade business has gained product leadership; new contracts to become long-term annuities; promises strong growth and greater linearity in this and future quarters
* Remote access market rebounding with 56K modem standard and European telecom reform; Ascend very well positioned with new products in the pipeline, and a gold-plated customer list unlikely to switch vendors.
* GRF Internet-class router has potential to surprise above our modest
expectations; new software makes it a viable alternative today; next generation hardware due this year could leap-frog Cisco
* Reiterating Outperform rating
* Investment Conclusions
Ascend has weathered its stormy 1997 [Amen], and now stands ready to reap the benefits of strong new products and solid long-term relationships with the best carrier/ISP customer list in the industry. It has leap-frogged its ATM/Frame Relay competitors with new product platforms introduced in October 1997, continuing to rack up important contract wins that will form the base of business for years to come. On the remote access front, Ascend is emerging from serious product problems relatively unscathed, with no major customer defections to competitors and a slate of new products due in the second quarter.
The GX550 and enhanced CBX500 multiservice ATM/Frame Relay platforms introduced in October 1997 combine with the low cost B-STDX frame relay switch to deliver superior functionality, performance and cost. For example, Ascend is the first to deliver 2.4Gbps OC48 ATM and 45Mbps T3 frame relay capabilities. Competitors are at least 6 months away from offering comparable products.
As such, Ascend is winning lion's share of new carrier contracts for ATM/Frame Relay networks - deployment is underway at AT&T, NTT, Brooks Fiber, Williams Telecom, and Bell Atlantic, with potential new contracts at SBC, Sprint, and several international carriers could be awarded over next 2-3 months. Because switching costs are prohibative and frame relay service growth is strong, these carrier ATM/Frame Relay contracts will become 3-5 year annuities as the initial 12-18 month deployments yield future sales for network expansion. Thus current wins are indicative of strong long-term growth potential and a greater predictability for performance in future quarters. [sweet words]
The remote access market is expected to rebound in 1998 after near disaster in 1997. The v.90 56K modem standard is expected to stimulate strong industry demand, as ISPs move forward with expansion plans put on hold during the confusion over competing modem technologies.
Furthermore, European telecommunications deregulation is expected to stimulate strong remote access growth as cross-border and local calling prices fall in the face of new competition. Today, a European ISP can serve 30-35 subscribers with every access port. In the US that figure is closer to 10 to 1, due to much higher frequency and duration of internet access. We expect European carriers to move closer to US access ratios over time, driving significant access deployments.
Ascend's flagship MAX/TNT remote access concentrator products regaining technical leadership, and are expected to be strong contender for greenfield opportunies, as well as network expansions by existing customers.
- Stability problems have been resolved with new software released in February
- The 96-line MAX 6000, now in beta testing, fills a hole in Ascend's product line and introduces voice over IP functionality
- TNT-II, expected in May, to triple product density, add new capabilities including voice over IP and integrated high-end routing
- New remote access concentrator platform due before year end
Members of Ascend's gold-plated remote access customer list -- UUNet, PSINet, EarthLink (Sprint), GTE/BBN, AGIS, NTT, France Telecom, Deutche Telecom,etc. -- are unlikely to defect to competitors, given substantial switching costs such as retraining customer service engineers and rewriting customized billing/security software. As such, Ascend is likely to represent lion's share of high-end access concentrator market as Internet industry consolidates.
Ascend's GRF high-end router product could surprise with new, stable software now available, and next-generation hardware expected by 3Q.
Most major Internet carriers will wait until the second half of 1998 to make next generation architecture decisions in order to properly evaluate leading edge equipment from alternative vendors and start-ups like Juniper, that have not yet delivered products to market.
Therefore, Ascend has time to get back in this game for one last shot. We have not modeled major revenue contribution from the GRF in our estimates, but the product line could delive a significant upside surprise if one or more major backbone customers commit to deploying it.
Finally, given the significant switching costs in both ATM/frame relay and remote access markets, we believe that Ascend's margins will stabilize in 1998, and that expectations of a deteriorating cost structure have been over stated. We believe Ascend can sustain 63-64% gross margins and 25% operating margins. Combined with the strong 30% industry growth expected in Ascend's core markets, the strength of Ascend's product portfolio, and its tight relationships with its powerful customer base, Ascend is positioned for strongly accelerating earnings.
Bernstein reiterates they Outperform rating. |
