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ADCTelecommunications Inc. / (ADCT – NASDAQ) / $6.64Note: More details to come; changes are highlighted. Except where noted, and highlighted, no other section of this report has been updated.
Reason for Report: Flash Update: 4Q09 & FY09 Earnings Update
Prev. Ed.: October 15, 2009; Minor Change
Flash Update [earnings update in progress; to follow]
ADCT changed its fiscal year end to September 30 from October 31.
On November 19, 2009, ADCT announced its 4Q09 & FY09 financial results. Two months ended 4Q09 net sales were $183.9 million, while three months ended non-GAAP net sales were $293.6 million. FY09 net sales were $996.7 million. The Zacks Digest model had projected net sales of $172.8 million for 4Q09 and $985.6 million for FY09.
Two months ended 4Q09 GAAP net loss was $19.8 million or $0.20 loss per share, whilethree months ended4Q09 GAAP net losswas $20.4 or $0.21 per share. Eleven months ended FY09 GAAP net loss was $474.3 million or $4.87 per share, while twelve months ended FY09 GAAP net loss was $506.3 million or $5.12 per share. The Zacks Digest model had projected GAAP EPS of $0.04 for 4Q09 and ($4.50) for FY09.
During FY09, operating cash flow was $79.9 million, while capital expenditures were $32.0 million. The company generated free cash flow of $47.9 million for the 11-month year ended September 30, 2009.
Outlook:
For 1Q10, net sales are expected to be in the range of $250million to $275 million. GAAP earnings per share for the quarterare expected to be within the range of a loss of $0.15 to a loss of $0.05.
MORE DETAILS WILL COME IN THE IMMINENT EDITIONS OF ZACKS RD REPORTS ON ADCT.
Portfolio Manager Executive Summary[Note: Only highlighted material has been changed.]
ADC Telecommunications, Inc. (ADCT or the Company) is a global supplier of broadband access equipment, copper and fiber connectivity products, telecom software, and systems integration services. ADCT’s total line of business is restructured into three reporting segments: Global Connectivity Solutions, Network Solutions, and Professional Services. The Network Solutions segment combines ADCT's legacy wireline and wireless businesses with the newly-acquired LGC Wireless.
Key factors for evaluating an investment strategy inADCT are as follows:
- Deployment of fiber-based network continues to grow as a result of the massive demand for greaterbandwidth.
- The growing demand for Internet video (video streaming) and improving capital expenditure expectationsare also likely to serve asgrowth catalysts for ADCT.
- Wireless coverage capacity solutions remain significant growth opportunities for the Company.
- Acquisitions of LGC Wireless (December 2007) and Century Man(January 2008) have improved the Company’s revenue and earnings growth potential.
61.5% of the firms in the Digest group are neutral,30.8% arepositive, and 7.7%of the firmsarenegative. Target prices provided by the brokersrange from $8.00 to $11.00 with an average of $9.30. The expected return at the current share price is 28.5%.Most of the firms used P/E multiples to calculate the target price.
Neutral Stance (Neutral or equivalent ratings) – 8firms or 61.5% – Targetpricesprovided by the firmsrange from $8.00 to $11.00. In general, most of the firms remain positive on the stable demand in core end markets and the fundamental strength of the Company, but given the slowing economy and uncertain capital spendingenvironment, they believe ADCT’s share price appreciation might be limited. ADCT’s multiple geographic and business segments are still pointing to diminished visibility despite the pockets of strength in fiber connectivity and wireless.A few firms believe that the current risk-reward balance is less than compelling. In addition, conservative 4Q09 guidance due to lack of a comparable consensus,near-term visibility due to seasonality, and uncertainty about the synergistic benefits from the LGC Wireless and Century Man acquisition may also limit ADCT’s share price.
Bulls (Positive or equivalent ratings) – 4 firms or 30.8% – Target prices provided by the firms range from $9.00 to $11.00. The firms remain optimistic on ADCT's leading share in FTTX network buildouts, increasing demand for video streaming, and improved margin profile. Moreover, ADCT’s increasing international exposure, acquisitions of LGC Wireless and Century Man, the broadband stimulus package and new product lines are expected to accelerate the Company’s growth going forward. Additionally, management’s effort to reduce costs is being seen positively by these firms.
Bears (Sell or equivalent ratings) 1 firm or 7.7% – The firm did not provide any target price. The firm believes limited visibility into both near-term and longer-term demand will be detrimental to ADCT’s growth.
Long-Term Outlook: The emerging fiber-to-the-premise (FTTP) market continues to remain the leading catalyst for the Company’s long-term growth. Management believes ADCT is well positioned to grow its market share in the fiber, copper, and enterprise connectivity markets, as well as in wireless capacity and coverage solution markets. Moreover, the Company’s revenue base continues to expand with its growing international presence, even in developing countries. However, management sounded cautious about their ability to fill in FTTP revenue with international customers when Verizon would slow down next year. The firms expect ADCT’s total revenue to decrease at a 3-year CAGR (FY08-FY11) of 5.9%, net income to decrease at a CAGR (FY08-FY11) of 14.8%, and cash flow from operations to decrease at a CAGR (FY07-FY10) of 13.3%. The Digest average long-term growth rate for the Company is 12.8%.
October 15, 2009
Recent Events[Note: Only highlighted material has been changed.]
On September 1, 2009, ADCT announced its 3Q09 financial results. Total revenue in the quarter was $283.4 million versus $381.8 million in 3Q08. GAAP earnings from continuing operations were $5.6 million, or $0.06 per share compared with $13.4 million, or $0.11 per share in 3Q08. On a non-GAAP basis, net earnings in the quarter were $16.5 million, or $0.17 per share versus $29.9 million, or $0.25 per share in 3Q08.
Overview[Note: Only highlighted material has been changed.]
Based in Eden Prairie, Minnesota, ADC Telecommunications (ADCT or the Company) provides connections worldwide for wireline, wireless, cable, broadcast, and enterprise networks. ADCT's network infrastructure equipment and professional services provide high-speed Internet, data, video, and voice services to residential, business, and mobile subscribers. ADCT’s sales market is spread over more than 130 countries. For more information on the Company, please visit its website:
The analysts have identified the following factors for evaluating the investment merits of ADCT:
Key Positive Arguments / Key Negative ArgumentsCompelling Fundamentals
- Positive balance sheet metrics
- Well-rounded product lines that support wireless service providers, cable operators, and OEMs
- Leading provider of network infrastructure equipment
- Huge customer base; well positioned to benefit from the secular trend of increased spending
- Evolution of core networks to triple play
- Increased FTTx traction
- Growth opportunities in China
- The Century Man acquisitionhas broadened ADCT’s broadband connectivity business in China and across the globe, while the LGC acquisition hasadded scale to the Company’s existing line of wireless capacity and coverage solutions in a fast-growing market.
- Highly concentrated customer base with top 5 customers accounting for a major portion of ADCT’s total revenue
- Inability to gain traction with new products could negatively impact revenue
- High investments in R&D required to meet the challenging environment and to avoid losing market share
- Pricing pressures due to increased competition from vendors like Corning and Commscope
- Overall weak macroeconomic conditions
- Unfavorable regulatory environment
- Exposure to significant foreign exchange risk with a major portion of sales coming from outside the US
- Revenue growth almost completely dependent on the level of enterprise and carrier spending
- Active in M&A market, which could create substantial integration risk.
Note:The Company’s fiscal year ends on September 30; its fiscal year differs from the calendar year.
Note:On July 25, 2008, ADCT announced that the Company's Board of Directors approved a fiscal year-end change from October 31 to September 30. The change is scheduled for the Company's FY09 beginning November 1, 2008 and ending September 30, 2009, which means that 4Q09 will be shortened to approximately two months. The Annual Report for FY09 will serve as the transition report for financial reporting purposes and will be filed within 60 days of the new September 30 yearend.
September 9, 2009
Revenue[Note: Only highlighted material has been changed.]
Provided below is a summary of revenue as compiled by Zacks Research Digest:
Revenue ($M) / 3Q08A / 2Q09A / 3Q09A / 4Q09E / 2008A / 2009E / 2010E / 2011EZacks Consensus / $190.0 / $1,030.0 / $1,136.0
Digest High / $390.2 / $275.1 / $283.4 / $183.9 / $1,484.4 / $996.7 / $1,160.0 / $1,224.6
Digest Low / $381.2 / $275.1 / $283.4 / $167.6 / $1,456.4 / $980.4 / $1,113.3 / $1,224.6
Total Revenue / $387.2 / $275.1 / $283.4 / $172.8 / $1,468.6 / $985.6 / $1,136.5 / $1,224.6
Y/Y Growth / 12.6% / -31.2% / -26.8% / -51.0% / 11.7% / -32.9% / 15.3% / 7.8%
Q/Q Growth / -3.2% / 8.2% / 3.0% / -39.0%
Mgmt. Guidance / $160.0M-$175.0M
According to the Digest model, total revenue in 3Q09was $283.4 million (same as reported by the Company), down 26.8% y/y and up3.0% q/q. The sequential increase was driven by increased sales from Global Connectivity Solutions (GCS) business unit in the US and modest increase in the Asia Pacific region. 3Q09 revenue was above the Company’s revised guidance of $280.0 millionand the Streetconsensus of $281.0million.
Geographically, in the Asia Pacific region, sales in China eased q/q but increased 54.0% y/yas the Company continued to support the 3G network deployments in that country. Outside China, the region grew 24.0% q/q. Connectivity and wireless sales in the Asia Pacific region were lower with the exception of Australia, where enterprise spending activity improved. Sales in the United Statesshowed moderate sequential improvementas core fiber revenue grew 11.0% and Professional services grew 5.0%. Sales across Europe were slightly below the prior quarter due to the ongoing impact of the global recession.
Provided below is a summary of segmental revenue as compiled by Zacks Research Digest:
Revenue ($M) / 3Q08A / 2Q09A / 3Q09A / 4Q09E / 2008A / 2009E / 2010E / 2011E--Global Copper Connectivity / $125.3 / $85.1 / $82.2 / $50.6 / $449.0 / $271.2
--Global Fiber Connectivity / $109.9 / $90.5 / $93.5 / $54.0 / $434.7 / $287.0
--Global Enterprise Connectivity / $58.0 / $35.7 / $42.4 / $24.0 / $221.7 / $123.1
Global Connectivity Solutions / $292.6 / $214.7 / $223.8 / $134.0 / $1,104.4 / $764.4 / $893.7
Network Solutions / $42.4 / $23.6 / $21.9 / $16.0 / $164.7 / $79.6 / $97.3
Professional Services / $50.1 / $35.8 / $37.5 / $22.7 / $194.7 / $126.1 / $149.7
Total Revenue / $387.2 / $275.1 / $283.4 / $172.8 / $1,468.6 / $985.6 / $1,136.5 / $1,224.6
Note: Blank cells indicate that brokers have not provided estimates.
Provided below is a graphical representationof segmentalrevenue:
Global Connectivity Solutions (79.0% of 3Q09total revenue): Global Connectivity Solutions (GCS) sales were $223.8million in 3Q09, down 23.5% y/y but up 4.2% q/q. The q/q increase was attributable to the acceleration of capital project activity in North America and some building of carrier and distributor inventories. This segment comprises Global Copper Connectivity, Global Fiber Connectivity, and GlobalEnterprise Connectivity.
Global Copper Connectivity sales were $82.2 million, down34.4% y/y and 3.4% q/q. Global Fiber Connectivity Solutions revenue was $93.5 million, down 14.9% y/ybut up 3.3% q/q. Global Enterprise Connectivity sales were$42.4 million in 3Q09, down 26.8% y/y but up 18.9% q/q.
Network Solutions (7.7% of 3Q09 total revenue): Revenue at this segment was $21.9 million in3Q09, down48.4% y/y and7.9% q/q due to continued delays in carrier and enterprise wireless spending. However, the Company witnessed improvement in booking rate in the latter half of the quarter indicating early signs of improvement.
One firm (Avondale) believes that despite continuous increase in market presence through the acquisition of LGC, in-building wireless sales in Europe and Latin America remains a challenge for ADCT given weak economic conditions and the relative strength of the dollar on a y/y basis.
Professional Services(13.2% of 3Q09 total revenue): Revenuewas $37.5million in 2Q09,down25.2% y/yandup 4.7%q/q.
Outlook
For 4Q09, management expects net sales to be in the range of $160.0 million to $175.0 million. This includes a negative impact of 5% to 7% on revenue resulting from foreign exchange rates.
One firm (Avondale) believes process re-engineering, modest inventory restocking, the conversion of international FTTx trials to revenue andbroadband stimulus commencing in CY10 will drive revenue growth going forward. In the near-term, any improvement in capital spending in North America is expected to be offset by weak sales in Europe and Latin America.
For more details on individual analyst opinions please see the Consensus tab of the ADCT spreadsheet.
Margins[Note: Only highlighted material has been changed.]
Provided below is a summary of margins as compiled by Zacks Research Digest:
Margins / 3Q08A / 2Q09A / 3Q09A / 4Q09E / 2008A / 2009E / 2010E / 2011EGross / 33.7% / 32.8% / 34.8% / 34.6% / 34.3% / 33.2% / 34.1%↓ / 35.0%
Operating / 9.3% / 4.4% / 7.6% / 3.9% / 8.9% / 3.7% / 6.3% / 8.2%
Pre-Tax / 8.8% / 2.5% / 6.1% / 2.3% / 9.5% / 2.2% / 5.5% / 7.1%
Net / 8.0% / 2.0% / 5.9% / 2.1% / 9.2% / 1.9% / 4.9% / 6.8%
As per the Digest model, gross profitwas $98.7million in 3Q09, down24.3% y/y andup 9.5% sequentially. The sequential increase wasprimarily due to the Company’s cost reduction initiatives. Gross marginwas34.8%in 3Q09versus 33.7% in 3Q08 and 32.8% in 2Q09.
SG&A expensein3Q09was $60.1million (21.2% as a percentage of total revenue), down19.3% y/y and1.7% sequentially. R&D expensein3Q09was$17.3million (6.1% as a percentage of total revenue), down20.3% y/y and 6.0% sequentially. Total operating expenses in the quarter were $78.3 million (27.6% as a percentage of total revenue), down18.5% y/y and 3.6% q/q. The lower operating cost was primarily the effect of the previouslyannounced cost reduction actions and lower incentive costs.
Operating incomewas $21.6 million in 3Q09, down39.7% y/y and up 78.2% q/q. The sequential increase was due to higher gross margin and lower operating expenses. Operating marginin the quarter was 7.6% versus 9.3% in 3Q08 and 4.4% in 2Q09.
Pre-tax incomewas $17.3million in 3Q09, down49.4% y/y and up 149.0% sequentially. Pre-tax margin was 6.1% in 3Q09versus 8.8% in 3Q08 and 2.5% in 2Q09. Effective tax rate in the quarter was 3.2%, compared to 10.6% recorded in 3Q08. Net margin was 5.9% in 3Q09 versus 8.0% in 3Q08 and 2.0% in 2Q09.
Outlook
For 4Q09 the Company expects gross margins to remain flat sequentially. Operating expenses are expected to be in the range of approximately $55.0 million to $58.0 million. This excludes estimates for intangible amortization of approximately $3.0 million, putting adjusted opex at around $52.0 million to $55.0 million.
Though one firm (R W. Baird) remains encouraged by the Company’s solid cost-cutting initiatives, it believes that increased volume will be necessary to expand margins going forward.
One firm (Morgan Keegan) believes gross margin may remain near current levels while operating expenses could rise with the resumption of bonus accruals next year.
As per the Zacks Digest model, COGS is expected todecrease by 31.8% y/y in FY09but increase by12.7% y/y in FY10and7.4% in FY11; SG&A expense is expected todecrease by 23.7% y/y in FY09 but increase by 8.6% y/y in FY10; and R&D expense is expected todecrease by 19.0% y/y in FY09 but increase by 11.1% y/y in FY10. In comparison, revenue is expected todecrease by 32.9% y/y in FY09 but increase by 15.3% y/y in FY10 and 7.8% in FY11.
For more details on individual analyst opinions, please see the Consensus tab of the ADCT spreadsheet.
Earnings per Share [Note: Only highlighted material has been changed.]
Provided below is a summary of EPS as compiled by Zacks Research Digest:
EPS / 3Q08A / 2Q09A / 3Q09A / 4Q09E / 2008A / 2009E / 2010E / 2011EZacks Consensus / $0.04 / $0.19 / $0.55
Digest High / $0.27 / $0.05 / $0.17 / $0.09 / $1.14 / $0.24 / $0.66 / $0.83
Digest Low / $0.19 / $0.05 / $0.17 / $0.01 / $0.91 / $0.16 / $0.45 / $0.83
Digest Avg. / $0.26 / $0.05 / $0.17 / $0.04 / $1.09 / $0.19 / $0.54 / $0.83
Y/Y Growth / -30.6% / -86.6% / -33.6% / -78.4% / -6.3% / -82.7% / 188.1% / 52.6%
Q/Q Growth / -31.4% / 171.4% / 240.0% / -77.2%
Mgmt. Guidance (GAAP) / ($0.06) - $0.02
Mgmt. Guidance (Non-GAAP) / ($0.03) - $0.05
According to theDigest model, pro forma EPS in 3Q09was $0.17 (same as reported by the Company), down 33.6% y/y but up 240.0% q/q. The sequential improvement was due to slightly higher revenue, improved margins, and cost-cutting efforts. 3Q09 EPS was above theStreet consensus of $0.12 and the Company’s revised guidance range of $0.11-$0.16.
As reported by the Company, GAAP EPS from continuing operations was $0.06 in 3Q09 versus $0.11 in 3Q08. 3Q09 GAAP EPS included $10.9 million of expenses, or ($0.11) per share, primarily related to purchased intangible amortization, restructuring and impairment charges and other one-time operating expense items.
Outlook
For 4Q09, management expects GAAP diluted earnings per share to be in the range of ($0.06) to $0.02,which includes non-cash amortization expense of $0.03 per share. On an adjusted basis, the Company expects EPS to be in the range of ($0.03) to $0.05.
The Zacks Digest model projects EPS of $0.19 for FY09, $0.54 for FY10, and $0.83 for FY11, with a y/y decrease of 82.7% in FY09but increase of 188.1% in FY10 and 52.6% in FY11. The estimated 3-year compound annual growth rate (CAGR) based on 2008 EPS is (8.8%). The estimated 3-year CAGR based on 2008 shares outstanding is (9.7%).
Highlights from the EPStable are as follows:
- 2009 forecasts (8firms) range from $0.16to $0.24; the average is $0.19.
- 2010 forecasts (8firms) range from $0.45 to $0.66; the average is $0.54.
- 2011 forecast (1firm) is $0.83.
Following the3Q09 earnings release, most of thefirms decreasedtheir EPS estimates for FY09to reflect the change in ADCT's fiscal year end from October to September. However, few firms increased their EPS estimates for FY10 while few firms decreased it. In the recent update, there were no changes made to the FY09 and FY10 EPS estimates.
One firm (Avondale) sees potential for strong earnings acceleration in the coming quartersgiven improvement to ADCT's topline on reduced cost structure.
For more details on individual analyst opinions please see the EPS tab of the ADCT spreadsheet.
Target Price/Valuation[Note: Only highlighted material has been changed.]
Of thethirteenfirms rating ADCT,eightfirms gave neutral ratings,fourprovidedpositive ratings, andone firm (J.P. Morgan) gave a negative rating. The Zacks Digest average target price of $9.30(↔ with the previous report, 28.5% upside from the current price) lies between the Digest low target price of $8.00 (10.5% upside from the current price) (Auriga) and the Digest high target price of $11.00 (51.9% upside from the current price)(Avondale). The firm quoting the highest target price rated the stock Market Perform and used 0.9x FY10 revenue estimate to value the stock. The firmquoting the lowesttarget price rated the stockHold and used 27.0x FY10 EPSestimate to arrive at the target price.
Following the 3Q09 earnings releasee, threefirmsdecreasedtheir target price based on lower EPS estimates, while two firms increased their target price. In the recent update, none of the firms revised its target price or rating.
Provided below is a summary of valuation and ratings as compiled by Zacks Research Digest:
Rating DistributionPositive / 30.8%
Neutral / 61.5%
Negative / 7.7%
Minimum Target Price / $8.00
Maximum Target Price / $11.00
Average Target Price / $9.30
No. of Analysts with Target Price/Total / 10/13
Downside risks to the target priceinclude (1) limited near-term visibility, (2) potential disruptions from the various acquisitions by ADCT, (3) customer concentration, and (4) uncertain macroeconomic conditions and spending environment. However, overseas growth (especially China) represents an upside risk to the target price.