Saturday, November 3, 2012

Acme Packet Elevates Their Game

The death knell for Acme Packet (APKT) appears to be a bit premature as Wall Street boosted the stock price since their Q3 Conference Call on October 25th. The equity has been punished this year from anemic worldwide enterprise sales, and weak North American Tier 1 carrier spending, which pressured the top and bottom lines. However, the company seems to be well positioned to take advantage of three major growth drivers for their business: enterprise, interconnect, and wireless.

Although they have maintained their global leadership position in SBC's (session border controllers), Acme Packet may have gained the upper hand by recently introducing the Net-Net 6300. Net-Net 6300 is a plug-and-play quad core CPU and memory module that supports one million subscribers, and is capable of handling 200,000 calls at a time. Practically all interconnects among Tier 1 carriers use decades old legacy technology. The Net-Net 6300 is destroying the past as carriers switch to SIP trunking, an area where Acme Packet excels.

To paraphrase point-man and CEO Andrew Ory about the new product:

It improves our capabilities to meet the needs of our customers in three areas: for high-capacity network interconnect between service providers, for large-scale subscriber access environment, such as VoLTE, and for large-scale contact center and enterprises.
There is a near-universal agreement among telecom equipment providers that the North American Tier 1 service provider market continues to be CapEx challenged, and CEO Ory acknowledged this during his presentation. However, European carriers remain a bright spot for Acme Packet. Some of their strongest and most strategic relationships are from the Tier 1 service providers in Europe; large telecommunications carriers like Telefonica Germany.

When we break down the numbers geographically, 49% of revenues come from the United States and Canada, with 51% from the rest of the world. That 51% of sales also includes the Asia/Pacific region, plus South America. So just because Europe is alive and kicking, it doesn't necessarily translate into a banner quarter. For instance, during the third quarter, sales were split 27% to enterprises and 73% to service carriers. Just doing back of the envelope calculations of the revenue breakdown, you can infer it was a tough three months for Acme Packet.

Although they serve over 1,850 customers in 109 countries (this includes 89 of the top 100 service providers, and 18 of the top cable operators globally), they still came up short where earnings are concerned. The Q3 bottom line breaks down to: "GAAP net loss for the third quarter of 2012 was $5.5 million, or $(0.08) per share, compared to GAAP net income of $7.9 million, or $0.11 per share, in the third quarter of 2011 and GAAP net loss of $0.1 million, or $(0.00) per share, in the second quarter of 2012.". Not good.

In fact, if we look at their econometrics provided by Yahoo Finance, we can see that revenues and earnings are only projected to grow 10% in 2013. In addition, earnings growth is expected to be 12.5% a year for the next five years when we view the consensus. This is a far cry from the blistering growth the company experienced from 2006-2011 when it grew at 26% on average. I believe this is one of the reasons Acme Packet disappoints Wall Street. Expectations were ratcheted way too high, and the equity got very far ahead of itself. The security traded at $83 a little over a year ago when everything seemed copacetic. How times have changed.

The reason I like Acme Packet as an investment is that they are replacing outmoded telecommunications systems. Not necessarily annihilating legacy infrastructure, but slowly making the change to LTE (long term evolution) networks.

As Senior Vice President James Hourihan stated:

There's no doubt that all service providers' mobile subscribers, at some point in time, will move on to LTE networks. Why? Because they are going to go out of business trying to run 2 or 3 mobile networks. They need to re-farm spectrum. So it's not a question of effort, it's only a question of when.
The when is a big question, especially since the company is betting the farm on LTE, or more specifically, VoLTE. Mr. Ory agrees with industry analysts that 2014 is when you are going to see subscriber growth rates accelerate. Because the implementation of this technology is time consuming, purchase-based opportunities ought to materialize in 2013. Next year they will probably be back on track, and get back to the positive side of the ledger.

Here are some bullet points provided by company executives from the Q&A session that shed some light on Acme's relationship with VoLTE:

  • From an LTE purchase point of view, or a VoLTE purchase point of view, there are very, very few carriers in the world that are actually doing this for now. And one example would be MetroPCS (PCS). And they purchased for several quarters, before they finally had the infrastructure ready to start rolling out that kind of service.
  • I don't know whether it's the top 25, the top 50 or the top 100, but these are the service providers that will dominate the spending environment and the subscriber management, of services over the next 5 to 10 years. And our goal is to win as many of those providers as we can, to diversify away from the reliance on 1 or 2, or even a region.
  • When people think of VoLTE, and our role in VoLTE, we don't make the application servers. What we do is we secure the application servers and we extend their reach to every single access network, and we provide security at the access network as well as at the peering network.
  • Our strategy is very simple, which is to provide the most comprehensive solution and provide the greatest capacity to meet their needs most cost effectively. So oftentimes, when we end up competing, why we win isn't because our element is better than someone else's element. It's usually because our approach is that of a disruptor.

As a countermeasure to the dwindling stock price, Acme Packet repurchased 1.6 million shares for approximately $29 million in Q3. This computes to an average of $18/share. Right about where it now trades. In my personal account, I've been dollar cost averaging shares for six months now, with my cost basis at $22/share. I'm underwater, but my original premise was that I'd double or triple my money in 3-5 years, and I believe I will still do so. 4G LTE is not going to go away, and Acme Packet has the end-to-end technology to make it happen in a secure fashion.