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JDS Uniphase: An Expensive Valuation Makes It a Risky Investment

May 29, 2014 | About:
kcpl

kcpl

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JDS Uniphase (JDSU) is a solid turnaround story. The fiber optics components company has seen tough times in the past, resulting from lower telecom orders from its North American customers. Mismanagement, uneven capital spending by telecom companies, and stiff competition from Finisar eroded Uniphase’s margins.

A Turnaround in Progress

The story seems to have changed for Uniphase. Uniphase is seeing consistent demand for fiber-optic parts and testing equipment in China on the back of the LTE roll out by China Mobile, while its gesture recognition solutions have been used by Microsoft for the Xbox. Both these end-markets, along with others, should continue to gain steam as the year progresses.

Uniphase is working hard to make a strong come back. The company has succeeded in justifying its claims so far. This can be noted by the fact that it outperformed in the second quarter and has reported a strong outlook for the future. Management is confident of Uniphase’s operational efficiencies and expects its business to improve across the world. With its prospects looking strong, Uniphase is seeing strong demand in America for its 100G products and LTE solutions.

Chinese Opportunity

China seems to be supporting Uniphase's growth with a growing telecom market. Telecom activity has picked up in the country after a slow start to the LTE roll out in 2013. This year, the deployment of TD-LTE in China should benefit Uniphase’s business more than last year.

With the rolling out of LTE platforms across the world, especially in China, many companies are making aggressive efforts to tap the growing market. China Mobile has set itself a target of building 500,000 base stations this year in an effort to cover 350 cities by the end of 2014. It is expected that China Mobile will be majorly investing in LTE deployment. This presents a substantial opportunity for Uniphase as it should see stronger demand for its test and measurement solutions.

Upgrades Are Also an Opportunity

Moreover, telecom carriers are making moves to make their networks stronger and more efficient. This presents bright opportunities for Uniphase to tap more markets. In order to catch a stronger hold of the market, telecom companies are upgrading their networks with the use of software. This improvement will lead telecom companies to deliver services with ease.

Uniphase is expecting its data communications business to perform well once again this year. The company sees data-center build-out and expansion of the cloud as catalysts for its datacom business, leading to strong demand for its 10G and 40G products. Uniphase is working on increasing its market share in this segment by introducing new products, and this is a necessity since rival Finisar has a stronghold in this market.

Competition

Uniphase might face stiff competition from Finisar. Finisar is seeing headwinds in its business, which can be noted by a good 11% increase in its revenue, driven mainly by an increase in demand for 10G products and Ethernet switches. Finisar is intent on capturing higher optical content in data centers going forward, and since it has key clients such as Ciena, Alcatel-Lucent, Huawei, Nokia-Siemens and Cisco, it might find it easier to tap this market than Uniphase.

On the other hand, Uniphase has Microsoft as a key win. The growing acceptance of the Xbox, which is one of the best-selling game consoles, is a key driver for Ciena. As the console cycle moves forward and sales of these devices increase, Uniphase’s revenue from this business segment could increase further.

However, Uniphase, under its diversification strategy, is focusing on other customers also. Paying attention solely to Microsoft can prove to be a bad bet for the company.

Conclusion

Uniphase is seeing a lot of traction in its end markets as we saw above. However, at more than 43 times trailing earnings, it isn’t a good time to initiate a fresh position in the stock. For comparison, peer Finisar trades at a lower 40 times earnings, but its revenue growth is far superior to that of Uniphase. Moreover, Uniphase is expensive when compared to the industry average of 26 times trailing earnings. So, even though the company has good prospects going forward, investors should wait for a better point of entry on pullbacks.


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