Finisar’s (FNSR) Q408 Earnings Call was June 12 (Call Transcript). Since then the stock has declined nearly 25%, reflecting what we believe is a general dissatisfaction with revenue growth guidance of 10-15%. This guidance appears conservative.
October 1, 2002 is the generally agreed upon day that marks the bottom of the bubble (Nasdaq low was Oct 9, 2002)and is a useful date to compare post-apocalyptic performance.
Click to enlarge
Finisar is the only optical component stock with a post-bubble positive return. During FY08 Finisar lost its ‘favorite son’ status when it failed to deliver expected growth.
However, its decline should be viewed as a mean reversion, not a decline of fortune. I believed the positive sentiment attached to Finisar in 2006 was absurd (see “Why I Don’t Own Optical Component Stocks (yet)”) but believe the negative sentiment today to be equally absurd.
FY09 Revenue Guidance
Finisar provided FY09 revenue guidance of +10-15% (exclusive of the Optium (OPTM) merger now underway). We like to look at the company as three separate segments: Test, 1-8G (SFP’s, Mostly Enterprise market driven) and everything else which we refer to as 10G/Telecom. 10G/Telecom is the growth segment of the company, while the 1-8G segment is mature from a unit volume standpoint. The company provides excellent data on segment performance.
Finisar’s total revenue for 2007 was $440M. About $267M was 1-8G, $39M was test and measurement, and $135M was 10G and Telecom. The company would need to reach revenues of $506M to grow 15% - what must happen to hit this?
- The company expected single digit growth in 1-8G for 2009. Some growth is reasonable as pricing in this segment has reached the point where smaller, marginal producers can’t survive. SFP prices have stabilized after years of decline. 8G SFP shipments are just beginning and Avago and Finisar are the only suppliers that matter here. But a conservative outlook requires this segment to stay flat. $267M.
- Assume Test and Measurement stays flat, though the company again indicated single digit growth. $39M.
- 10G/Telecom would need to grow 45% year over year to deliver the remaining $200M ($506M - $267M - $39M).
Summary: Assuming all other businesses are flat, Finisar needs to grow its 10G/Telecom units 45% to reach the high end of revenue guidance. The below graph illustrates the segment growth required to hit 15% revenue growth.
Click to enlarge
The risks to this appear reasonable:
- 10G/Telecom grew at an annual rate of 87%, 55%, 79%, and 58% in Q1/Q408. It grew 70% FY08/FY07. The 45% annual growth is at the low end of the historical range.
- 10GbE unit volume in the SR flavors is accelerating rapidly, which is a low cost market segment where Finisar is well positioned.
- The Optium merger allows Finisar to serve 300-pin applications, moving it from a niche 10G module supplier to one that has a full spectrum of solutions. This should accelerate market share gains in existing 10G segments.
- 1-8G revenue volatility decreased in the last few quarters. Pricing stabilized. Competition decreased as marginal producers have been squeezed out. We also heard Avago was extremely aggressive in the last year as part of an effort to position the company for a liquidity event. The market shock this created ‘cleaned the competition pool’ and we don’t believe Avago will attempt this again.
- We’ve asked around the industry to identify scenarios where the 1-8G business ‘blows up’ and can’t find any. Our greatest concern is a general slowdown in this Enterprise-driven segment. Finisar is particularly exposed to this, much more so than its peers.
It is possible to see a scenario where Finisar grows 20% over the next year barring any macro meltdowns. It is tough to see how it will grow only 10%.
Disclosure: Long FNSR