Back in the late 1990's George Gilder used to evangelise about the telecosm and how increased use of broadband would engulf us and dictate consumer and business behavior. Well that time has come. Acme Packet is serving notice that they are in an elite class of technology company and are building a global franchise. They seemed to be locked in to the fertile ground of growth which is the backbone for Internet 2.0.
If you aren't familiar with Acme Packet's technology, they are, "basically building a signaling network for the Internet.", says founder and CEO Andy Ory in a recent Investor's Business Daily article. They're like the traffic lights on the information superhighway. Essentially, they provide Session Border Controllers (SBCs) which reside at the outer seams between the loose confederation of IP networks that make up the World Wide Web. When you send anything digital, whether it be text, voice, picture or video, it is broken up into small packets that are sent via many different routes throughout cyberspace to get to its destination. Acme Packet's hardware and software enable that data to smoothly travel through the disparate connections on the Web and reconfigures the bits and bytes once they get to the end of their journey.
Infonetics Research estimates that, "Acme Packet's market area... is expected to grow to $865 million in 2014 from $326 million in 2010 for service providers and enterprises.", as reported in The Boston Business Journal. The article also went on to say that, "Competitors include Cisco Systems (CSCO) and Sonus Networks (SONS), but neither has anywhere near the market share of Acme Packet, which Infonetics puts at 62%.". Standard & Poor's concurs with this assessment of the company's dominant position and states that it is over 50%. In the 2010 annual report, Mr. Ory claims that they have nearly six times greater market share than any competitor. Whatever the number is, it's enormous and they have a big head start on their rivals which now includes Juniper Networks (JNPR). A battle royale is brewing, however, Acme Packet has first mover advantage.
Acme Packet's current customer list includes 92 of the top 100 telecom service providers in the world, along with 11 of Fortune 25 enterprises. The key takeaway from the latest conference call is the potential market ready to unfold in the next five years. CEO Ory estimates that more than $20 billion of legacy systems have been deployed globally to support the old voice landline telephone network and they will have to be replaced with the newer IP technology. In addition, they recently acquired a prized possession in Newfound Communications, an innovative provider of IP session recording technology and believe that this could significantly increase their addressable market, although not beginning until 2012.
Before we call Acme Packet a stock for the ages, I'm going to throw some cold water on the romance and check out the valuations. According to the average analyst estimates on Yahoo Finance, the company is slated to earn $1.08/share for 2011 and $1.44/share for 2012. That translates to a current P/E ratio of 69 and a forward P/E Ratio of 52. Not exactly sticker shock, but still very high when you take their estimated growth into consideration. CAGR for the next 5 years is projected to be 25%, but, I'll kick it up a notch to 30% just to give them the benefit of the doubt for our computations here. At 30% growth, we get a PEG Ratio (price/earnings/growth) of 2.3 for 2011 and 1.7 for 2012. Not too bad if you own it, but much too expensive if you want to buy it.
There's a lot to like about Acme Packet. Their opening gambit against more formidable opponents was not checkmate, but they've got their rivals scrambling to take advantage of the big land grab which is the buildout of the backbone of Internet 2.0. Acme Packet has a healthy R&D budget and a global reach. In fact, 40% of business is from international markets. Besides the competition, one large headwind they will be experiencing is managing their growth. They've already begun hiring in advance of the anticipation of amplification of business. SG&A expenses could put a damper on earnings going forward. There is also their high BETA of 1.45 according to Standard & Poor's. If the market corrects, small caps like Acme Packet will get hammered. You could pick it up at a much more reasonable valuation.
After doing a fairly substantial amount of research on market direction and valuation, I'm betting that P/E Ratios for individual securities and the indexes will contract in the next decade. That's why I am out of the market at the present time. However, there will be growth in some global market sectors. The expansion of Internet Protocol networks will probably buck the trend of any slowdowns in the global economy and Acme Packet will surely be a beneficiary. The question is, what do you want to pay for it and at what metric? That decision is entirely up to you.