BTAB (from 4/27/99) Digital Microwave Corporation - Buy
Upgraded Investment Rating To "Buy" With 12-Month Price Target Of $20
(full pdf report available upon email request)
-Digital Microwave reported F4Q (Mar.) 1999 sales of $59.7 million and a loss per share of $0.04, versus our estimates of $57.1 million and a loss per share of $0.06, Street consensus was a loss per share of $0.06.
-Digital Microwave has clearly made significant progress in cutting costs, integrating the Innova product line, and rolling out new products.
-Digital Microwave reported higher orders, higher sales volumes, improved margins, strong book/bill and a solid balance sheet, in our view.
-Recent channel checks with key component suppliers indicate a firming of orders from DMIC and its sub-system vendors.
-The Company's new products, including the Altium SONET/SDH radio, the
DART DS-1/E1 radio, and the DXR 700 long-haul radio, are all shipping in volume.
-We have increased our estimates, upgraded our investment rating on the shares to "buy" and established a 12-month price target of $20 (40x our FY 2001 EPS estimate of $0.50).
DETAILS:
Digital Microwave Corporation reported F4Q 1999 sales of $59.7 million and a loss per share of $0.04, versus our forecasts of $57.1 million and a loss per share of $0.06. The Street consensus was a loss per share of $0.06. Full FY 1999 sales were $237.8 million and a net loss of $0.47 per share.
Digital Microwave has clearly made significant progress in cutting costs, integrating the Innova product line and rolling out new products. A stronger tone of business is reflected in better orders, higher volumes absorbing overhead, better margins and a solid balance sheet, in our view.
Further, recent channel checks with key component suppliers indicates a firming of orders from Digital Microwave and its subsystem vendors.
Given the improving order flow, pipeline of new product introductions, early strong interest in the Altium product line and potential for positive forward earnings adjustments, we have upgraded our investment rating on the shares to "buy" and have established a 12-month price target of $20 (40x our FY 2001 EPS estimate).
SALES AND ORDERS BY DIVISION
F4Q 1999 orders were $65.2 million, a 16% increase over the prior quarter's level. The backlog as of March 31, 1999, was $63.9 million. The book to bill was 1.1x on the quarter. Stronger Broadband (Altium) sales were as expected. Linearity was very good during the quarter. The Company also had good customer diversity, with 200 customers in the quarter including seven OEMs (OEMs were only about 20% of sales, but that percentage should grow).
Sales ($mil) 4Q 3Q Orders ($mil) 4Q 3Q
Narrowband 46.6 50.0 Narrowband 53.7 45.7
Broadband 3.6 0.7 Broadband 4.2 1.1
Long-Haul 9.6 8.9 Long-Haul 7.3 9.5
Total 59.7 59.6 Total 65.2 56.3
MARGIN IMPROVEMENT
Gross and operating margins benefited from higher volumes, product mix, and past restructuring and cost-cutting measures. The F4Q gross margin was 26.3% versus 20.2% in F3Q (Dec.) and 17.7% in F2Q (Sept.). The key driver was lower factory costs, driven by higher volume/overhead absorption and a somewhat improved product mix. Management hopes that the Company will exit FY 2000 with gross margin in the range of 30-35%. Operating expense was slightly lower at 29.3% of sales, versus 30.0% of sales in 3Q. Lower SG&A was offset by higher R&D expense to support new product development and rollouts. The Company has completed all planned head count reductions.
NEW PRODUCT ROLLOUTS ON PLAN
The Company's new products, including the Altium SONET/SDH radio, the DART DS-1/E1 radio, and the DXR 700 long-haul radio, are all shipping in volume. These new products accounted for about 10% of sales in quarter. The Company hopes to increase them to around 35% of sales by the end of FY00. A 40% gross margin is targeted for all new products.
ALTIUM
Sales were $3.5 million, up from $1 million in the prior quarter. The Company booked over $4 million in Altium orders in F4Q 1999. The Company began shipping the 7 GHz and 8 GHz versions in mid-January and has recently commenced 18 GHz version shipments. In F1Q (June) 2000, the Company plans to ship two more bands, followed by four more over the F2Q-F3Q 2000 timeframe.
Currently the Digital Microwave salesforce is pursuing several specific opportunities that could amount to around $70 million in Altium sales ($30 million in the Americas, $25 million in Europe, $15 million in Asia). About one-half of these are for mobile wireless capacity upgrades and new systems, about 35% are to PTTs for fixed-access networks, and the remainder are to LMDS and data networks. We are forecasting Altium revenues of $44.7 million in FY 2000. We believe there is upside potential to this forecast if certain large opportunities receive funding.
DART
The DART is shipping in volume, with applications including microcell interconnect, single T1/E1 lines, rural cellular backhaul, and low-cost temporary installations. Recently, the Company completed an international E1 version, the 23 GHz frequency band radio, and it has additional bands under development.
DXR-700
The Company shipped 7 GHz version of the DXR-700 in 4Q, and has since
completed the 8GHz version.
REGIONAL COMMENTS
By geography, the Company is seeing strength in multiple markets. China is strong and growing. In the remainder of Asia, the Company is seeing some revived order flow from the Southeast Asian markets that all but disappeared last year. The Company is seeing strong and diverse strength in European markets. In Latin America, the Company has seen very strong demand levels, but management is more cautious on the market because of economic concerns and the risk that customers
would not secure needed financing.
BALANCE SHEET LOOKS FINE, IN OUR OPINION
The Company closed out the year with $27 million in cash, down slightly from $28 million last quarter. Accounts receivable were up by $6.4 million, and DSOs were 91 days. DSOs were up sequentially from 3Q's 83 days, level with 2Q's 92 days, and down from 2Q's 104 days. Management stated that the 8 day increase in DSOs was not an indication of a back-end loaded quarter and that the quarter was in fact linear. The Company stated that more generous terms were required for competitive reasons. Inventory was $50.6 million, down over $4 million sequentially. Inventory turns rose to 3.5x from 3Q's 3.4x.
According to management, the Company's recent $65 million shelf registration is intended to afford rapid capital markets access in the event that the company must expand manufacturing capacity, inventories, or head count.
ADJUSTING ESTIMATES
Based on business trends and management guidance, we are raising our sales and earnings estimates for FY 2000 and FY 2001.
PREVIOUS ESTIMATE REVISED ESTIMATE
1Q 2000 Sales $63.8 mil $64.6 mil
1Q 2000 EPS $0.00 $0.00
FY 2000 Sales $290.3 mil $303.5 mil
FY 2000 EPS $0.19 $0.20
FY 2001 Sales $352.9 mil $378.6 mil
FY 2001 EPS $0.45 $0.50
CONCLUSION
Digital Microwave has clearly made significant progress in cutting costs, integrating the Innova product line and rolling out new products. A stronger tone of business is reflected in better orders, higher volumes absorbing overhead, better margins and a solid balance sheet, in our view. Given the improving order flow, pipeline of new product introductions, early strong interest in the Altium product line and potential for positive forward earnings adjustments, we have upgraded our investment rating on the shares to "buy" and have established a 12-month price target of $20 (40x our FY 2001 EPS estimate). |
