Netgear Finds Better Profit Focusing On Home Routers, IoT, Not ISPs
Higher profit on lower revenue? Investors expecting greater efficiency out of home Wi-Fi networker Netgear ( NTGR ) likely won’t be disappointed after the close Wednesday. That’s when Wall Street expects Netgear to report that first-quarter earnings rose 30%, which would be its best showing in 17 quarters, while a decline in low-margin Internet service provider (ISP) gear might have led total sales to a 3.5% decline. All good, says Rosenblatt Securities analyst Kirk Adams, who reiterated a buy rating on Netgear stock, with a 42.50 price target, in a research note issued Monday. Investors obliged by firming up the stock a fraction, near 39.50, in afternoon trading in the stock market today . Netgear stock is forming a cup-with-handle base, with a 41.08 buy point. Shares are 14% off their record high 45.76 set on Dec. 7. Analysts polled by Thomson Reuters expect Q1 EPS minus items of 60 cents, up 30% from the year-earlier quarter, on revenue of $298 million, down 3.5%. CFO Christine Gorjanc, on the Q4 earnings call on Feb. 4, had guided Q1 sales to $290 million to $305 million, reflecting “seasonality for the retail business unit, particularly for home security cameras, and a lower revenue outlook for the service provider business unit.” Adams wrote that “our numbers are slightly lower (than the Street) but we do believe they can outperform our estimates and be in line if not slightly better than the Street.” He cited “excellent fundamentals in their retail business, the disposition of the low-margin piece of the service provider business, and much lower inventories in the commercial business unit, which should lead to positive year-over-year revenues in that unit. “We should see a much-improved non-GAAP operating margin during 2016.” Netgear Attacking More Profitable Markets Adams says that “walking away” from the low-margin service provider sales lets Netgear focus on “attacking markets where their product differentiation can bring higher margins.” ISPs provided about 33% of Netgear revenue last year. The No. 1 provider of networking gear to ISPs is Cisco Systems ( CSCO ), which is about 118 times larger than Netgear’s $1.2 billion market cap. A distant No.2 is Juniper Networks ( JNPR ) with an $8.9 billion market value. Cisco stock was up a fraction Monday afternoon, while Juniper stock was down a fraction. Netgear’s highest-margin niche comes from consumers, who generated 47% of Netgear revenue from 27,000 merchant locations last year. Adams is modeling 13% retail sales growth this year. Led by its Nighthawk WiFi routers and Arlo home security products, Netgear posted record retail sales in Q4, up 34%. Netgear is an enabler and beneficiary of the rising Internet of Things. Put simply, you can’t connect your doohickey to the Internet without a Wi-Fi router in between, unless you use a hard-wired Ethernet connection, which Netgear also makes. “IoT continues to heat up and Netgear is in the middle of most of these developments,” Adams said. “We expect to see them enter another one of those markets in 2016.” Adams notes that Netgear generated more than $100 million in free cash flow last year “and is not afraid to use it” for stock buybacks. The Netgear board authorized a 3-million-share buyback last summer, 9.3% of outstanding shares, beyond the 19% of outstanding shares authorized in Q4 2013. “They continue to believe it is important to return cash to shareholder in excess of strategic and operating needs,” Adams said.