By the numbers, this deal will make Oclaro second only to Finisar (FNSR). The combined entity will be poised to generate over $800M of revnue in Oclaro's fiscal year ending June 2013.
There will be $20-30 million of integration costs, leaving the combination with a net tangible asset balance in the range of $300 million. According to the company, its first quarter as a merged company will deliver non-GAAP profitability, something that both Oclaro and Opnext have struggled to achieve independently. Looking further out, Oclaro expects to realize $35-45 million in annualized cost saving by the beginning of 2014.
This would put the company in position to generate about $25 million in annual net income. Giving this a P/E of 10 and adding back a discounted $250 million of its net tangible assets, we can derive a valuation of $500M, or 35% above current levels.
Of course, there are risks to integrating two similarly-sized companies. However, both are located in California and both have significant overlaps in spending. Assuming the Oclaro's management team is prepared to make the tough cuts, this deal gives each company its best shot of becoming competitive with FNSR and JDS Uniphase (JDSU).
More importantly, the combination seems to offer the companies' best hope at profitability. This comes at an important time, as they work to recover from the flooding in Thailand. Also, as fiber-optic cable supply rebounds from last year's tragedy in Japan, the entire optical segment should see a resumption of healthy growth, as demand for Internet bandwidth continues to expand at unprecedented rates.
Ultimately, this deal looks to be a positive for the entire sector. Thus, shareholders in OCLR, OPXT, FNSR, and JDSU may all benefit from the decreased competition and greater efficiencies (and therefore higher margins).
For investors who wish to play the 35% potential upside, shares of Opnext offer the greatest hope for maximal upside. The stock is currently trading at a 7% discount to the implied deal price (ORCL's share-price multiplied by 0.42), offering the potential for a 40%+ return.
Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in OPXT over the next 72 hours.