From AT&T's (T) press release Thursday: AT&T's revenues and earnings were down a little less than expected, and the market responded by raising T 2.6%. Wireless operating margins were down 6.7%, supposedly because of the iphone, and wireline OMs were down 32%, which is pretty bad but not surprising given the macro situation; T had to be conservative with cash because enterprise is DOA right now and capital-intensive wireline is shrinking.
What is interesting about the quarter is T added 3.5 million "integrated 3G" devices, smart phones; wireless data revenues increased 37% to $3.4B, which is more than 2X two quarters ago, a material increase; Uverse TV added 248K subscribers to 1.6M, 5% increase; and, a 17% increase in Wireless IP data revenues. T will need to invest in significant capital in order to keep up with these increases in IP traffic.
T's IP data traffic is increasing dramatically, and by extension Verizon's (VZ) is probably as well. T is barely managing that traffic. T and VZ spent a total of $36.9B on cap ex in 2008; so far 1H, T has only spent $7B, down from $9.3B 1H08, and the last quote I saw from VZ said their 2009 cap ex budget was $19B. T's issuance of debt is down 1.8B, and it finished the quarter with 7.3B in cash and equivalents after operating cash flow for 1H was a solid 15.8B. In the second half, T will thaw the 1H freeze in capital expenditures to keep up with all that new traffic (and its revenue).
T and VZ's capital spending will benefit most of the companies in the communication service, equipment and software sectors, especially the high margin software providers; that is why the prices of all those companies were up 2.1% to 7.8% yesterday. The entire market is up about 2.2%, so do not be too impressed with a 2.1% gain.
Ciena (CIEN) was up 7.5% Thursday because they will be one of the main beneficiaries of T's second half spending; CIEN is a premier core and metro switch and software provider. They have good international exposure, but they just got burned on a loss-leading contract when the buyer cancelled the high-marign (expensive) part of the order. CIEN expects to sell dozens, then hundreds, of high-margin, high service margin CoreDirectors as wireless broadband expands over the next few years (the new CD handles 5X traffic).
IMO it is time to buy into communications equipment. I already own Starent (STAR), a back-haul specialist for VZ; T as a long term investment; and, Alvarion (ALVR), an international WiMax system builder. There will be some profit taking tomorrow or next week, and then I will buy CIEN. Even better, 25% of CIEN's float is shorted, the short squeezes could make it even more profitable. IMO almost any communications company is going to go up in value the next two quarters, even if the macro situation does not change. The only other small companies I have a strong opinion on are LVLT and INFN: both should be break even by the end of the year, but they are value plow horses, and the odds that they will ever grow profits significantly is low compared to risk. As I said in a previous post, price competition is getting tight and experts expect to see some consolidation in these sectors.
ALU is heavily involved with VZ and will generate a significant amount of revenue; however, I think there is too much price competition for ALU, ERIC and MOT; ERIC and ALU have trials in China right now. If they are able to prove better than the Chinese/ Japanese/ Korens then they could really explode; however, the price pressures are especially tough with Huawei under-cutting everyone, so I am wary of these three until I see some post-trial contracts. On the other hand, I have bought ZTE (ZTCOF.PK) because of crazy sales growth and contracts with Tier 1 Chinese carriers, and I would buy Huawei if they were public. Just speculating, Chinese carriers will probably hedge their bets and ALU and ERIC will get some big contracts.
Cisco (CSCO), JDSUniphase (JDSU) and Juniper (JNPR) are three heavyweights that need to be mentioned and studied if you get into these sectors. CSCO has their iron in so many fires that it is difficult to examine their impact in these sectors; eg, VZ is moving away from CSCO's routers, while CSCO is signing big contracts elsewhere. This article is not even a thorough list. There are at least fifty companies that I could have mentioned. If you have something to add, I would like to hear it.
Disclosure: Long STAR, T, ZTCOF.PK; will buy CIEN soon.