AI might give this optical networking firm a giant increase.
Optical networking firm Ciena (CIEN -1.77%) will not be a family title in the expertise sector, however the inventory has been in red-hot type on the market over the previous three months, clocking spectacular positive factors of 35% as of this writing.
Nonetheless, a better have a look at the firm’s latest monetary efficiency makes this latest rally appear shocking. Ciena’s income and earnings fell in the third quarter of fiscal 2024 (for the three months ended July 27). However traders appear to be upbeat about the potential turnaround in Ciena’s fortunes due to a rebound in telecommunications spending, in addition to the rising adoption of synthetic intelligence (AI).
This is a better have a look at the the explanation why Ciena might grow to be a beneficiary of the proliferation of AI and maintain its newly discovered inventory market momentum.
The worst appears to be over for Ciena
Ciena’s income in fiscal Q3 fell 12% yr over yr to $942 million, whereas non-GAAP (adjusted) web earnings dropped 41% from the prior-year interval to $0.35 per share. These sharp declines have been on account of the poor efficiency of the firm’s networking enterprise. Extra particularly, Ciena’s optical networking income fell 15% from the identical interval final yr, whereas routing and switching income was down by 27%.
Ciena has been hit onerous by the downturn in the telecom gear market that started in the second half of 2023. In accordance with market analysis agency Dell’Oro Group, international telecom spending fell by 17% in the first half of 2024. The decline in spending negatively impacted Ciena’s order guide and the extra stock that the firm was left with has been weighing on its margins.
Dell’Oro estimates that telecom spending in 2024 might decline between 8% to 10%, up from the 4% drop seen final yr. Nonetheless, Citigroup factors out that the state of affairs is bettering in the North American telecommunications house, with spending anticipated to extend by 3% in 2025, in comparison with an similar decline estimated for 2024.
The great half is that Ciena is already witnessing an enchancment in enterprise situations. The corporate reported a wholesome order influx in fiscal Q3, ending the quarter with a book-to-bill ratio of greater than 1, which implies that it obtained extra orders than it shipped throughout the quarter. A studying of greater than 1 is an indicator of robust demand for the firm’s choices.
Even higher, Ciena’s stock got here all the way down to $937 million final quarter from $1.2 billion in the identical quarter final yr. These optimistic developments point out why Ciena’s outlook for the present quarter factors towards an enchancment in the firm’s top- and bottom-line efficiency. The corporate is forecasting income of $1.1 billion in the present quarter at the midpoint, together with an adjusted gross margin of low to mid-40%.
The highest-line steering factors towards a flat year-over-year efficiency, which might be a giant enchancment over the double-digit decline it reported in the earlier quarter. Moreover, the gross margin forecast means that the bottom-line erosion is more likely to decelerate, as Ciena reported an adjusted gross margin of 43.7% in the fourth quarter of fiscal 2023.
In the meantime, Ciena administration and sure Wall Road analysts consider that the speedy adoption of AI is probably going to provide its addressable market and progress a pleasant increase in the future.
The necessity for quicker connectivity in AI knowledge facilities ought to be a tailwind for Ciena
Morgan Stanley and Jefferies not too long ago elevated their value targets on Ciena inventory citing the potential influence of AI on its enterprise. Whereas Morgan Stanley hiked its value goal to $63 from $60, Jefferies has grow to be extra bullish on the inventory with a value goal of $80, in comparison with $65 earlier.
Jefferies factors out that the potential bounce in demand for quicker connectivity between knowledge facilities to assist the progress in AI workloads presents a stable progress alternative for Ciena. Morgan Stanley has an analogous stance, believing Ciena might clock a quicker progress price in the future due to the rising demand for knowledge middle interconnect (DCI) expertise.
The funding banks have grow to be extra bullish about Ciena’s AI-related prospects following a latest presentation from the firm in which it identified that international knowledge middle bandwidth is about to leap greater than fourfold between 2023 and 2027. Consequently, Ciena administration believes that the demand for optical bandwidth might improve at the next tempo than the historic annual common of 25% to 30%.
The great half is that Ciena is already witnessing a optimistic influence on its enterprise due to AI adoption. As administration identified on the newest earnings convention name, “In Q3, we secured new wins with main cloud supplier clients, spanning terrestrial, submarine and coherent pluggable functions, the majority pushed by preparations for the anticipated progress in AI and cloud site visitors.”
Dell’Oro Group estimates that the spending on back-end networks for connecting knowledge facilities to one another might double in the subsequent 5 years, hitting $80 billion in annual income. So, do not be shocked to see an acceleration in Ciena’s progress in the future; that is precisely what analysts predict from the firm.
CIEN EPS Estimates for Current Fiscal Year knowledge by YCharts
Ciena’s backside line stood at $2.72 per share in fiscal 2023. That determine is about to drop this yr, as the chart above exhibits. Nonetheless, the firm’s earnings are set to extend at a powerful tempo over the subsequent couple of years.
Assuming Ciena does hit $3.39 per share in earnings in fiscal 2026 and trades at 25 instances earnings at the moment (in line with its forward price-to-earnings ratio), its inventory value might hit $85 in a few years. That will be a 25% bounce from present ranges. But when the market decides to reward it with the next earnings a number of and the firm manages to clock stronger earnings progress due to its bettering addressable market, do not be shocked to see Ciena delivering stronger positive factors.
Buyers seeking to purchase a possible AI winner can take into account shopping for Ciena, which is buying and selling at a lovely 2.5 instances gross sales and 25 instances ahead earnings, and whose bull run appears poised to proceed.