Extreme Networks Has Upside Potential

| About: Extreme Networks, (EXTR)

Summary

EXTR has a striking earnings surprise history over the trailing five quarters and solid consensus estimates.

Improving operational efficiency - EXTR posted its eighth consecutive quarter of continued growth in gross margins, operating income and earnings.

Analysts are expecting the company to post EPS of $0.44 in 2017. This implies a 2017 forward P/E for shares at 20x.

Source: Finviz

Based on the stock price chart above, it is clear that Extreme Networks' (NASDAQ:EXTR) shares are in a solid upward trend. Shareholders and potential investors of EXTR may be interested in knowing what the future holds for their investment, and whether EXTR stock rates as a buy, hold or sell?

Given the stock's recent performance, it seemed like a good time to take a closer look at the earnings expectations, peer analysis & valuation and fundamentals. That might help answer whether EXTR's stock is a good buy or sell in 2017.

Earnings Analysis - Solid earnings surprise

Source: Reuters

EXTR, a provider of network infrastructure equipment reported better-than-expected earnings for the consecutive straight quarter. It last posted its earnings for Q32017 on May 3rd. The company reported EPS of $0.10 for the quarter, topping Street estimates of $0.08 by $0.02. The company had revenue of $148 million for the quarter compared to the Street estimate of $155 million. During the same quarter in the prior year, the company posted EPS of $0.03. EXTR has a 12-month low of $3.07 and a 12-month high of $9.53 (CMP $8.95). The firm's market cap is $930 million.

Consensus Estimates Analysis

Source: Reuters

The company had revenue of $528 million for FY2016 (down 5% YoY). Currently, analysts expect the company to generate revenue of $593 million (up 12% YoY) in fiscal 2017 and $659 million (up 11% YoY) in fiscal 2018.

"We are pleased to deliver our eighth consecutive quarter of strong financial results as demonstrated by continued growth in gross margins, operating income and earnings - all exceeding expectations," stated Ed Meyercord, President and CEO of Extreme Networks. "The strength of our cash flow and top line growth, driven by the successful integration of the Zebra WLAN acquisition, highlights the success of our accretive acquisition strategy.

Analysts are expecting the company to post EPS of $0.44 in 2017. This implies a 2017 forward P/E for shares at 20x. Analysts are currently expecting 2018 EPS of $0.58, which implies a 2018 forward P/E for shares at 15x. This is below the S&P 500 forward P/E of 19.7x. In other words, the stock is trading at a discount/is undervalued compared to the S&P 500.

Management Guidance - Q42017

  • Revenue in a range of $168.0 million to $178.0 million.
  • GAAP gross margin between 55.6% and 56.6% and non-GAAP gross margin between 56.5% and 57.5%.
  • Operating expenses between $86.0 million and $90.0 million on a GAAP basis and $76.5 million to $80.5 million on a non-GAAP basis.
  • GAAP earnings between a net income of $5.1 million to $8.5 million, or earnings of $0.04 to $0.07 per diluted share. Non-GAAP earnings are targeted in a range of net income of $16.2 million to $19.6 million, or $0.14 to $0.17 per diluted share.
  • The GAAP and non-GAAP net income targets are based on an estimated 114.3 million average outstanding shares.

Income Statement Analysis - Improving operational efficiency

Source: Morningstar

EXTR posted its eighth consecutive quarter of continued growth in gross margins, operating income and earnings. Over the past 5 quarters, operating income margin improved to negative 2.18% from negative 7.14% (932 bps improvement). This is primarily due to the decreasing trend in cost of revenue and SG&A. Also, net income margin improved from negative 8.64% to negative 3.77%. During the same period, interest expense marginally increased to 0.79% from 0.62% .

Improving operational efficiency also contributed to free cash flow. TTM free cash flow was $45 million, increasing by $37 million compared to FY2012.

Piotroski F Score - An accounting-based scoring system to check the fundamental quality of a stock.

The Piotroski score is a simple nine-point scoring system to determine the fundamental strength of the company. By focusing on the accounting, it looks at the business performance to determine the winners from the losers. Performance of this model improves when it is combined with stocks with low price to book values. The higher the score the better. The score ranges can be interpreted as follows: 1-4 is a bad score. 5-6 is acceptable. 7-9 is great.

Market View - Positive

Source: Nasdaq

On May 16, 2017, EXTR's stock increased by 163% over the last 12 months. Of the analysts covering company, 3 recommended it as a "Strong Buy," 1 recommended it as a "Buy" and 1 recommended it as "Hold."

My Recommendation: Buy Rating

I will recommend a Buy rating for EXTR based on the following factors:

1. EXTR has a striking earnings surprise history over the trailing five quarters and solid consensus estimates.

2.Analysts are expecting the company to post EPS of $0.44 in 2017. This implies a 2017 forward P/E for shares at 20x. Analysts are currently expecting 2018 EPS of $0.58, which implies a 2018 forward P/E for shares at 15x. This is below the S&P 500 forward P/E of 19.7x. In words, the stock is trading at a discount/is undervalued compared to the S&P 500.

3. Improving operational efficiency - EXTR posted its eighth consecutive quarter of continued growth in gross margins, operating income and earnings.

4. Positive market view.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within 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.

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