Juniper Networks: Is It Time To Buy?

| About: Juniper Networks (JNPR)
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Summary

The stock price of Juniper Networks has gained 35% over the last year.

The company seems to find a perfect strategy which allows exploiting core capabilities in the right industries, like cloud and IT security.

The current price level of the stock does not provide enough margin of safety. A pullback below $29 should be considered as a moment to invest in the company.

Juniper Networks (NYSE:JNPR) is a company which offers a range of products and services enhancing the networking capabilities of enterprises. The stock has gained 35% year over year, with a 10% increase shown over the last month. The key drivers of the company's growth are increasing revenues from cloud and telecom customers. At the same time, while Juniper is known as a provider of viable cybersecurity solutions for enterprises, the recent "WannaCry" ransomware has not focused any extra attention on the stock, and the price continued to trade near the $30.5 level. In this article, I analyze the future potential of the company and evaluate whether it's time to invest in JNPR stock.

Business

Juniper Networks is known as a provider of switches, routers, cloud, and other products, and it competes with such companies as Cisco Systems (NASDAQ:CSCO), Hewlett Packard Enterprise (NYSE:HPE), and Gigamon (NYSE:GIMO). The company derives its revenue from selling both products and services, with a share of 68% and 32% respectively, according to Q1 2017 results. The three central regions where the company sells its solutions are the Americas, EMEA, and Asia Pacific.

One of the primary advantages of the company's business is a diversified portfolio of offered solutions. Juniper provides solutions in networking, security, cloud, data centers, and other segments for customers from many industries, including financial services, education, healthcare, telecom, and cloud computing companies. It seems the company looks at the right market opportunities at the right time, since the diversification strategy is beginning to pay off. For instance, JNPR recognized an opportunity in the cloud business and applied its core capabilities, providing solutions for cloud customers. Investors.com notes:

Juniper's cloud computing growth is coming from customers including two other members of the Dow Jones industrial average, Microsoft (NASDAQ:MSFT) and IBM (NYSE:IBM), as well as Facebook (NASDAQ:FB) and Oracle (NYSE:ORCL).

The company emphasizes in the Q1 statement that four of its top ten customers are cloud providers. This helped Juniper increase its switches and routers sales, as the momentum in the cloud industry is significant. Rami Rahim, CEO of Juniper Networks, described the current situation in the latest earnings call:

As the industry evolves, cloud architectures are no longer the exclusive domain of the cloud providers. Customers across all verticals are developing strategies for moving to cloud service delivery models and this aligns with our strategy to power the cloud transformation. I'm pleased with our year-over-year revenue growth of 25% in the Cloud vertical and would point out that our cloud solutions are addressing the cloud transformation across all of our key verticals.

Juniper and Cybersecurity

Another segment that Juniper is likely to profit from in the future is IT security.

Cybersecurity has been a major issue for many corporations and entities over the last years. The growth in IoT technology and the trend of making objects "connected," like smart homes and connected cars, are likely to induce an increase in spending on digital security. This attracts many companies, like Palo Alto Networks (NYSE:PANW) or FireEye (NASDAQ:FEYE), but still not many of them are profitable.

At the same time, the diversity of products in the company's portfolio can enable Juniper to better integrate IT security solutions and profit from this segment. Thus, the company is already providing a comprehensive security solution, namely the Software-Defined Secure Networks platform, enabled by a range of products, including SRX Series firewalls, Junos Space Security Director, Sky Advanced Threat Prevention, and others.

It is worth noting, in my article on cybersecurity I mentioned JNPR as a possible candidate to include in a digital security portfolio. The company's Q1 2017 results reinforced my opinion, as 8% of product revenue was derived purely from the security segment. Strangely, while many cybersecurity stocks like FireEye, Fortinet (NASDAQ:FTNT), Palo Alto, and others gapped higher on the 15th of May after the "WannaCry" attack, Juniper Networks did not show any response. I believe this presents an opportunity for investors to consider entering the stock at current levels.

Financials

I find Juniper's financials to be in good shape. Thus, the average net income growth has been 42% over the last five years, excluding $850 million non-cash goodwill impairment in 2014. For the same period, the revenue has grown on average by 3.5%. However, in Q1 2017, the revenue soared by 11% year over year due to the reasons mentioned earlier. This shows the company seems to be experiencing a turnaround with its diversification strategy, which enables Juniper to exploit its core capabilities in the right industries.

Additionally, Juniper Networks looks attractive in terms of valuation multiples. For instance, the stock trades at a P/E multiple of 18.8, which is lower than the industry average and in line with that of its main competitor, Cisco. At the same time, its operating margin, ROA, and ROE are higher than those of many competitors, while the debt burden is relatively low. In Q1 2017, the company had more than $2.9 billion of cash and only $2.1 billion of long-term debt.

JNPR Key Stats

(Source: Morningstar)

Moreover, in Q1 2017, the company managed to increase its margins for all segments of revenue. Thus, product gross margin increased by 5% YoY, while for services the number was even higher: 15% growth YoY.

Therefore, the financial condition looks sound and promises at least a stable position for the company in the coming years.

DCF Analysis

To strengthen the analysis and estimate the fair price for the stock, I use discount cash flow model to value the company. The model shows that under the base scenario (8.6x EBITDA terminal value), the fair stock price is $28.7. This is lower than the current price level ($30.5 as of May 14). However, if the market continues to value the company at a multiple of 9.6x EBITDA after the horizon period of 5 years, the fair stock price is $31, representing a not significant margin of safety with the current pricing.

My analysis is based on certain assumptions:

  1. The average annual revenue growth rate over the horizon period of 5 years is estimated to be around 10.2%, with a 10% increase in 2017. The growth is likely to be driven by the cloud and security segments.
  2. The average EBITDA margin will be around 22%. I find this to be a conservative assumption, since the rise in software and services businesses can help grow margins in the near future.
  3. I capitalize average gross PP&E growth of 5.2% for the next 5 years, with a 10% increase in 2019.
  4. The after-tax cost of debt is 2.9%. The cost of equity capital (19.9%) is computed using CAPM, with 1.2 beta, a 2.3% risk-free rate, and a 14.7% market premium. The WACC is, therefore, 17.48%.

As a result, the model shows $10987 million equity value under the base scenario, which assumes EV/EBITDA multiple will decrease to 8.6x by the end of the horizon period (2021). In this case, the value per share is $28.7. Under this scenario, the fair price of the stock is lower than the current price, providing no margin of safety.

At the same time, if Juniper is able to keep its momentum in the cloud and security segments, the optimistic scenario will be exercised, resulting in just 2% upside potential.

Conclusion

Overall, Juniper Networks is an attractive company which is on the right track to profit from growth in the cloud and IT security industries. However, while Juniper looks decent in terms of both its business and financials, I believe the current price level does not provide a perfect moment to buy the stock. However, a drop below $29 should be considered by investors as a moment to invest in the company.

Supporting Documents

  1. JNPR.xlsx

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in JNPR over the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.