This is the condensed version of a much longer article, which can be read on my Instablog here.
I believe the shares of Occam Networks (OCNW) can quadruple over the next year with little to no fundamental risk at current prices. I think there is about $1 of downside and $15 of upside, and that’s about as good as it gets.
While not well known to investors, the company has an outsized reputation in its industry with a best-in-class product for delivering high speed broadband to residential and business users, a sector which I expect to benefit from a tidal wave of spending for the better part of the next decade as the federal government expands the speed and reach of our rural broadband infrastructure.
I last wrote about the company in December of last year. Since that time, the shares advanced from $4.40 to as high as $7.41. I believe the recent pullback, in the context of a general market correction, provides an excellent opportunity to add to or establish positions. The balance sheet is strong, valuation is low, and the investment thesis is both topical and timely.
The company will report earnings after the close on July 29, and my expectation is that this report will mark the beginning of a sustained period of meaningful growth and profitability, and with it will come the sort of heightened investor awareness that allows stocks to appreciate rapidly in relatively short order. Maybe you’ll be able to buy shares at good prices after the earnings and maybe you won’t. But I truly doubt you’ll be able to buy them much cheaper than where they are today.
Buy for the Earnings
I expect Q2 revenues to be firm — at least as good as expectations — and that Q3 guidance may be a pleasant surprise as the government’s $7.2 billion broadband stimulus package begins to impact the company’s top line.
Competitor Adtran (ADTN) announced stellar second quarter revenue of $150 million, well better than expectations of about $137 million, and the shares surged on the news. Results were led by an 18% sequential increase in tier-2/3 broadband access deployments, Occam’s core market. Importantly, there was no contribution from the stimulus, and this suggests the base business is beginning to percolate. Even Zhone (ZHNE), a much less well positioned firm, saw a 22% sequential increase in its North American access revenues, once again without the benefit of stimulus.
Infinera (INFN), another equipment vendor and stimulus beneficiary that is not a direct competitor, also reported second quarter results well ahead of guidance, and its shares also surged as the company noted that while the stimulus impact was small, money was starting to flow. Competitor Calix (CALX) also reported a strong quarter, but its shares sagged as the company guided expenses higher and investors worried about a number of items particular to the company, including the potential for large overhangs of stock as venture capital lockups expire.
The past year has been a bit of a grind for Occam and revenues have been mostly flattish. While the recessionary economy has been one obvious culprit, I think the more important reason is that the broadband stimulus plan injected a great deal of uncertainty into carrier spending plans, resulting in an industry wide stall as carriers stopped spending in anticipation of the government’s massive giveaway. While there is still a lack of regulatory clarity, by all accounts the stimulus stall appears to be ending and business is beginning to normalize. In another quarter or two, I expect significant amounts of stimulus related revenue to hit the company’s top line resulting in rapid growth and significant profitability.
Occam has guided Q2 revenues to be up in the “high single digits” suggesting revenues of about $24.2 million or so. After four quarters of very modest growth, this is a sign that business is picking up. I think there is a good chance the company will see meaningful stimulus related revenue in Q3 and guidance for that quarter could be a pleasant surprise. I know that Rural Telephone, a large customer and stimulus awardee has begun preliminary engineering work in substantially all of the 27 towns slated to get their new fiber network, and that actual construction has already begun in at least 12 towns. I expect this $101 million project to impact Occam’s top line in a meaningful way, potentially beginning as soon as Q3.
Disclosure: Author is long OCNW