For some time, shares of Juniper Networks (JNPR) have lagged both the NASDAQ and the company's relevant peers. With an enterprise value of almost $11 billion, Juniper is perhaps Cisco Systems' (CSCO) closest competitor. And yet, Juniper has seemed unable to make headway against its chief rival, at least in terms of perception. As smaller networking companies such as Palo Alto Networks (PANW) occupy the spotlight with torrid growth (and the multiples that come with it), Juniper has continued to quietly grow revenue and EPS. While analysts and industry observers fret over Juniper's competitive position, the company grew EPS by over 50% in 2013, and although earnings growth is set to slow in 2014 and 2015, Juniper has a mitigant within its balance sheet. Juniper has accumulated more and more cash on its balance sheet with each successive quarter (even with over $570 million in share repurchases in 2013), to the point where it now has more cash as a percentage of market capitalization than almost any large-capitalization technology company. While pundits and sell-side analysts continue to fret about Juniper's position, the company has continued to accumulate cash, and to date has been reticent to drain those balances. However, that may soon change, with the presence of two activist investors: Elliot Management and Jana Partners. Elliot, in particular, has laid out a clear case for change at Juniper, one that we believe can unlock significant value at the company. But, even without these activists, we believe that shares of Juniper are undervalued in relation to its peers, when adjusting for relative growth, and see upside of at least 25%, and possibly far more if these activist investors have their way. But, they may not need to. On the company's earnings call, Juniper's new CEO has effectively committed the company to cutting costs and deploying capital at a more material pace, and when such efforts are combined with the case for change proposed by Elliot Management, we believe that the true value embedded within Juniper's shares can be unlocked. Unless otherwise noted, financial statistics and managerial commentary used in this article will be sourced from the following: Juniper's Q4 2013 earnings release, its Q4 2013 earnings call, or Elliot Management's presentation regarding the company.
Q4 2013: Wrapping up a Successful Year
Juniper's Q4 results, released after the close of trading on January 23, beat estimates on both the top and bottom lines. Revenues of $1.2736 billion (up 11.64% year-over-year) beat estimates by $60 million, and EPS of $0.43 (up 30.3% year-over-year) beat estimates by 6 cents. Furthermore, guidance for Q1 2014 was in line with consensus; the company forecast revenues of $1.14 billion at the midpoint, matching consensus, and EPS of $0.27-$0.30, mostly in line with a consensus estimate of $0.29.
During the quarter, revenue growth at Juniper was driven by its product division, with sales growing by 15% year-over-year, versus 2% for its services division (products account for over 76% of Juniper's revenue). On the earnings call, management was quick to point out that during 2013, no single customer accounted for more than 10% of total revenues. Of note is the fact that during the quarter, Juniper grew revenues across all three of its geographies on a year-over-year basis (up 12.85% in the Americas, up 6% in Europe, the Middle East, and Africa, and up 17.67% in Asia), as well as to both service provider and enterprise customers (up 11.85% and 11.26% respectively). CFO Robyn Denholm noted on the company's earnings call that demand was strong across almost all product lines, geographies, and end markets during the quarter. Enterprise sales within North America grew by 29% year-over-year, with Juniper citing strength in both financial and government sales (notable given the October government shutdown). Although sales in the EMEA region grew by just 6% year-over-year, the company did see more material growth within Eastern Europe, Germany, and the United Kingdom, and despite 18% year-over-year growth in Asia, Juniper noted that more can be done to drive further growth within the region. Within Juniper's product lines, routers performed quite well, growing 16% year-over-year but with bookings surging over 30%. Switching revenue grew by 36%, driven by increasing design wins for Juniper's QFabric line.
However, while Juniper's revenue growth during Q4 was relatively solid, it is its operating income growth that is more notable. Pro forma operating income jumped 18.72% to $278.3 million, pushing Juniper's operating margin to 21.9%, up 210 basis points year-over-year. For all of 2013, operating income grew by over 31% to $895.9 million, with full-year margins rising to 19.2%, up 360 basis points versus 2012. Despite posting double-digit revenue growth during the quarter, Juniper kept pro forma costs essentially flat; $525.3 million in Q4 2013 versus $525.5 million in Q4 2012. But perhaps Juniper's most notable performance was in cash generation, which we detail in the table below (note: Q4 cash flow figures were compiled via a reconciliation of Juniper's Q4 2013 earnings release and its Q3 2013 10-Q).
Juniper Networks 2013 Cash Flow (in Thousands of $)
Operating Cash Flow ex-Changes in Working Capital
Net Change in Working Capital
Operating Cash Flow
Free Cash Flow
For 2013 as a whole, Juniper grew total operating cash flow by over 31%, with free cash flow more than doubling to over $600 million. While activist pressure on Juniper (more on that later) has focused on deploying more of Juniper's capital, we note that on an ongoing basis, Juniper's capital return program is fairly aggressive. Per its Q4 2013 earnings release, Juniper spent $577.8 million on share buybacks in 2013, or almost 95% of full-year free cash flow. Since 2011, Juniper has consistently repurchased shares, retiring around 30 million shares since then, as shown in the chart below.
However, even with its buyback program, Juniper's net cash balance now stands at $3.0985 billion, up from $2.8383 billion at the end of 2012, and is equivalent to $6.22 per share in net cash & investments, or more than 22% of Juniper's current market capitalization. As Elliot Management notes, Juniper's net cash balance is well above the average of many large-cap technology peers; Elliot's presentation notes that as of November 4, 2013 (when the company began purchasing shares of Juniper), the company's net cash totaled 32% of its market capitalization, above even that of Apple (AAPL), seen by many as the poster child for excessive net cash holdings (more on cash to follow).
Addressing the Competition Narrative
Since reaching well over $40 per share in early 2011, shares of Juniper have experienced a precipitous slide, at one point falling below $15 as concerns over Juniper's competitive position relative to market leader Cisco Systems have intensified, with worries reinforced by weak results in 2012. However, we do not believe that Juniper's competitive position has worsened materially over the past several years, and while even Elliot Management admits that the company has lost market share over the past several years, Juniper's financial results paint a far less dire picture than the headlines would suggest. In the table below, we present the financial results of both Juniper and Cisco for the last eight fiscal years, going back to fiscal 2006.
Juniper Networks vs. Cisco Systems
Operating Cash Flow
Free Cash Flow
Operating Cash Flow
Free Cash Flow
For all the concern about Juniper's competitive position, the company's long-term performance seems to be far better than the headlines suggest, at least when taking a long-term view. Over the past eight years, Juniper has more than doubled total revenues, outpacing Cisco's revenue growth by over 30 percentage points. Gross profits at Juniper have grown by over 88% in the last eight years, outpacing Cisco by over 20 percentage points; while it is true that Juniper's gross margins have declined at a rate slightly above Cisco's, we believe the relative outperformance in revenue and gross profit growth makes up for slightly worse gross margin erosion. We note that for Juniper, 2013 was a record year in terms of both revenue and gross profit, with EPS close to record territory as well.
Critics of Juniper will point to the fact that the company's eight-year EPS growth at less than 76% lags that of Cisco, and the weakness feeds down much more aggressively into both operating and free cash flow (impacted by higher capital expenditures) growth. However, this should not be seen as a weakness, but as an opportunity, and plays right into the bullish thesis for Juniper espoused by both Elliot Management and Jana Partners (much more detail on this to follow). The "problems" at Juniper lie not with its ability to grow revenue (and to do without a collapse in gross margins), but in its cost structure, and that is precisely the reason that the company has become the target of activist investors. To date, Juniper has shied away from tackling its elevated costs in a truly meaningful way. By contrast, Cisco is in a seemingly constant state of restructuring, with the latest round consisting of 4,000 layoffs announced in October 2013. We do not fully buy into the narrative that Juniper is losing ground to Cisco in terms of products when the company's revenue and gross profit growth is materially higher than that of its chief competitor.
Although it is true that Juniper has rallied from under $16 in April 2013 to a current price of almost $28, the company has still underperformed the NASDAQ over the past year. Since January 2013, shares of Juniper have climbed less than 24% versus almost 30% for the NASDAQ, even when taking into account the rally that has occurred in conjunction with the announcement that Elliot and Jana have initiated stakes in the company. However, when stripping out the effects of these announcements, Juniper's underperformance relative to the NASDAQ dramatically widens. In the year ended January 10, 2014 (Elliot's 13D was filed on January 13), shares of Juniper rose less than 5% versus a gain of over 32% for the NASDAQ as a whole.
With solid growth in 2013, Juniper is well positioned to continue growing in 2014 and 2015, albeit at a slower rate. However, Juniper's EPS growth rates can be increased via cost cuts (as well as buybacks), and in any case, shares of Juniper trade at a discount to its peer group even after adjusting for Juniper's growth rates, which lag the peer average in certain respects. We present our peer analysis for Juniper in the table below, basing our peer group on the named competitors included within Juniper's latest 10-K. However, our analysis excludes one competitor, Extreme Networks (EXTR). This is due to the fact that Extreme Networks' growth in 2014 and 2015 will be fueled by its acquisition of Enterasys Networks, which will more than double its sales and earnings (we will include Extreme networks' financials in the table below, but the company will not be included in the calculation of peer averages), thereby skewing the company's figures (note: closing prices, estimates, and multiples are accurate as of the close of trading on January 29, 2014).
Juniper Networks Peer Comparison
Core Peer Average
Palo Alto Networks
Total Peer Average
Gross Cash & Equivalents
Net Cash & Equivalents (Debt)
Net Cash & Equivalents (Debt) per Share
Net Cash (Debt) as a % of Share Price
Adjusted Share Price
Fiscal 2013 Sales
Fiscal 2014 Sales
Fiscal 2015 Sales
Fiscal 2014 Sales Growth
Fiscal 2015 Sales Growth
2-Year Sales Growth
Fiscal 2013 EPS
Fiscal 2014 EPS
Fiscal 2015 EPS
Fiscal 2014 EPS Growth
Fiscal 2015 EPS Growth
2-Year EPS Growth
Fiscal 2013 EV/Sales
Fiscal 2014 EV/Sales
Fiscal 2015 EV/Sales
Fiscal 2013 P/E
Fiscal 2014 P/E
Fiscal 2015 P/E
As the comparison above shows, Juniper's 2-year EPS growth rate at over 16% is above its core peer average of less than 11%, and its 2-year sales growth rate is only 39 basis points less, something that we believe is more than mitigated by material discounts in Juniper's enterprise value-to-sales multiples, which have persisted even with Juniper's rally towards $28. Based on the EV/sales multiples of its peers, we see decent standalone upside for shares of Juniper irrespective of activist investors, and break down our price target below:
Juniper Networks Price Target
Implied Price Target
Fiscal 2013 EV/Sales
Fiscal 2014 EV/Sales
Fiscal 2015 EV/Sales
Averaging together these three price targets yields a pro forma price target of $32.63 for shares of Juniper, equating to upside of almost 18% relative to Juniper's January 29 closing price of $27.73. However, that does not take into account the presence of multiple activist investors driven to create substantially more value for Juniper's investors, both outside the company and within.
Activism at Juniper: A 2-Way Street
On January 13, 2014, Elliot Management disclosed in a 13D filing that the fund now owns 6.2% of Juniper's outstanding shares [fresh after making a bid for Riverbed Technology (RVBD)], thereby making it one of the company's largest shareholders. Elliot's accompanying presentation outlined several of the usual activist "bullet points," namely cost cuts and more prudent return of capital, arguing that such steps can lead to a valuation of as high as $40 for shares of Juniper. While Elliot Management's arguments may appear to some as merely the usual case of a short-term oriented fund looking to create a short-term boost in a company's stock price at the expense of its long-term performance, we find the fund's case compelling, and detail the thesis below.
Elliot begins its case by arguing for the need for meaningful reductions in cost cuts, specifically research & development. With over 22% of 2013 revenues spent on research & development, Juniper's R&D expenditures as a percentage of revenue are well above a peer average of 11%, and far in excess of Cisco's 11%. Furthermore, Juniper's R&D expenses total $229,000 per employee, versus a peer average of $181,000 (and $212,000 for Cisco). As Elliot notes, software engineering salaries that are most likely the highest in Silicon Valley fuel much of this disparity. Per figures from Glassdoor, software engineers at Juniper have an average base salary of $159,990, ahead of every Silicon Valley company known for generous compensation, including Google (GOOG), Facebook (FB), Twitter (TWTR), and Apple.
Critics of Elliot Management point to this as proof of the fund's short-term focus, given that cutting R&D solely for the purpose of cost savings is a road paved with many previous failures. However, there is a difference between high R&D spending and value-creating R&D spending. On its own, spending huge sums of money (in relation to revenue) is not proof that value is being created. Microsoft (MSFT) and Apple serve as clear examples of this. Microsoft spends billions on research & development each quarter (12.81% of revenues in the first two quarters of fiscal 2014), with precious little to show for its investments. In contrast, Apple spent just 2.62% of revenues on research & development in its fiscal 2013, and we believe it is obvious which company earned a higher return on their R&D spending. R&D spending for the sake of R&D spending is counter-productive, and a high level of R&D spending on its own does not equal high levels of innovation. Elliot Management notes that multiple analysts have, throughout 2013, raised the issue of Juniper's operating expenses, with particular emphasis placed on its research & development spending. Elliot Management has stated that its conversations with "numerous industry experts" have led it to conclude that a $200 million reduction in annual operating expenses (representing a 9.78% reduction in total expenses) is achievable, with far more in cost savings possible via further cuts in R&D spending. Applying the standard 35% tax rate and Juniper's diluted share count to this proposed $200 million in cost cuts would lead to a 13-cent boost in EPS, as well as provide the company with more capital with which to strengthen its balance sheet to accommodate larger returns of capital. The second aspect of Elliot's proposal for Juniper is an aggressive return of capital. With over $3 billion in net cash & investments, Elliot is calling for the company to undertake a large-scale buyback in the range of $3.5 billion, to be funded with domestic cash and new debt. As a frame of reference, were Juniper to repurchase just $1.5 billion in stock at $30 per share the company would retire 50 million shares, thereby boosting full-year EPS from $1.28 to $1.42. In addition to an aggressive buyback program, Elliot is also calling for Juniper to initiate a dividend, an argument that carries more weight now that most technology companies pay a dividend. Several years ago, Juniper's stance on dividends would not have been notable, given the technology sector's historical preference to channel cash towards buybacks, acquisitions, and internal investments. However, today's landscape is different. As Elliot notes in its presentation, 68% of technology companies within the S&P 500 currently pay a dividend, thereby placing Juniper in the minority of companies within its sector that eschew dividends.
In aggregate, Elliot argues that its proposals can lead to pro forma EPS of $2.33 in 2015, well above the current consensus estimate of $1.49; applying the current peer average fiscal 2015 EPS multiple of 15.92x and accounting for Elliot's implied $2.22 in 2015 net cash per share leads to an implied price target of $39.31, almost 42% above Juniper's January 29 closing price of $27.73. Of further note is the fact that Elliot Management is not alone in its calls for change at Juniper. On January 24, Jana Partners disclosed that it too has acquired a stake in Juniper, and although it did not reveal the size of its holdings, Jana did note that it is now one of Juniper's largest investors. Like Elliot Management, Jana wants Juniper to cut costs (it estimates $300 million in cost savings) as well as initiate a dividend. Of further note is the fact that Jana has suggested additions to Juniper's board, presumably its own nominees.
With two noted activists now invested in Juniper, the pressure on the company is likely to increase in the coming months. Neither Elliot Management nor Jana Partners are funds that sit idly by while their investments stagnate, and we believe that they will become more vocal should Juniper fail to pursue their proposals. However, there is a better-than-even chance that the relationship between Juniper, Elliot, and Jana need not be acrimonious, for we believe that there is an activist currently occupying the corner office at Juniper, and through his statements on Juniper's Q4 earnings call, he has effectively revealed himself. And that person is Juniper's CEO.
Although Juniper's initial response to Elliot's proposals was essentially mundane (with the company stating that it "welcomes open communications with shareholders and values their input"), save for the fact that Goldman Sachs is serving as its financial advisor, Juniper CEO Shaygan Kheradpir, appointed only in November 2013, was far more candid on the company's Q4 earnings call. Of note is the fact that prior to his appointment as Juniper's CEO, Kheradpir served as the head of operations and technology at Barclays, a role that likely came with an above-average understanding of finance for a technology CEO (prior to Barclays, he served as CIO and CTO of Verizon). Kheradpir began Juniper's Q4 earnings call by stating that he is "actively reviewing the company's business lines, operating model and capital structure." But it is the following portion of Kheradpir's opening comments that is most illuminating, and we present the full excerpt below for proper context.
"My team and I are already hard at work, developing an integrated operating plan that addresses 3 key priorities. Firstly, we are tailoring our strategy to focus on innovation that matters to our customers and where we excel, bringing in the outside in customer imperatives. I intend to restore Juniper's focus on thoughtful, highly value accretive innovation and rebuild the get-it-done culture that unleashes the talent of our people. Additionally, we will implement a more efficient cost structure, commensurate with our strategic focus and the competitive environment, resulting in reduced costs. I'll be taking a 3-pronged approach: focused R&D that matters, radical simplification on automation, and rightsizing. We will do this in a smart way, with an eye towards returns on investment and focusing on the cost drivers, such as operational leading indicators. This is something I've done before and I'm confident can be effectively implemented at Juniper. Lastly, we've been taking an in-depth look at our future cash flows and capital structure to assess how we can best return capital to shareholders, while still maintaining the financial flexibility to invest for future growth. We're actively evaluating the capital return policy, which includes level of share repurchases and dividends.
While the company has been working on the areas of cost structure and capital return for some time, since I've joined, the team and I have been full-on, on strategy, cost structure and capital return and we resolve to deliver meaningful results in this area. We will do this with an emphasis on disciplined execution on business fundamentals. I look forward to announcing and sharing with you the details of our integrated operating plan in the next few weeks.
You have my commitment that the plan we present to you will be well considered, specific and achievable. I also look forward to spending additional time with our shareholders and analysts in the coming weeks. And as we have said previously, we are very interested to continuing a constructive and open dialogue with our shareholders. I've been talking about what I've been doing and will continue to do in the next few weeks."
Juniper's new CEO has essentially committed the company to, at a minimum, cut costs. And he has admitted that increases in buybacks and dividends are on the table as well. Juniper's new operating plan will be presented to investors and analysts within the next several weeks, and we believe that it will feature both meaningful cost cuts and an expansion of Juniper's capital return program.
In our view, there is meaningful upside ahead for Juniper Networks. The company's Q4 results showed continued growth in both sales and earnings, as well as expansion in both operating margins and cash flow. Combined with a stock that trades at a blended discount to its core networking peers, we see Juniper's shares as currently undervalued, even before taking into account the presence of two leading activist investors. However, when their presence is combined with a new CEO that candidly speaks of a desire to cut costs and consider boosting capital returns, the potential for the true value of Juniper's shares to be unlocked increases materially. In essence, there are activists both outside and inside Juniper moving to restructure the company, and as these restructuring initiatives begin to play out over the next several weeks and months, we believe that shareholders will stand to profit from the upcoming restructuring of Juniper Networks.