Ruckus Wireless: First Mover Advantage In Carrier Wi-Fi

With the proliferation of smartphones and tablets congesting cellular spectrum, off-loading end-users to Wi-Fi hotspots is a technique of choice for a majority of Tier 1 telecom carriers and MSO's (Multi-System Cable Operators). Ruckus Wireless (RKUS) has a first mover advantage over competitors Cisco (CSCO) and Aruba Networks (ARUN), and continues to occupy a leading competitive position in the carrier Wi-Fi market. They make the base stations that make off-loading happen.

If you aren't familiar with Ruckus, they were a hot IPO this past year. The company's coronation came shortly after launch when they bolted from approximately $14/share, to $25/share. It was a headliner. After a lackluster Q1, the equity crashed to $10. A bad quarter, but perhaps an anomaly. My belief is that the security just got too far ahead of itself from Wall Street's exuberance. It trades now at $14. Back to square one if you bought at the outset.

In the Q2 conference call, Ruckus had revenue of $63.9 million, an increase of 31% year-over-year, and at the top-end of their sales guidance. As CEO Selina Lo explained:

In Q2, our service provider business regained momentum. We had a record number of new customer wins, and expanded deployments by existing customers. Our enterprise business also continued to perform well. Q2 was a quarter of recovery and improved visibility for us.

My impression of Ruckus Wireless is that it's important to separate the enterprise market from the carrier market. As the CEO emphasized in the conference call, the enterprise business is very predictable, and they will have limited problems projecting numbers for this niche. It's with the telecom carriers and MSO's that the metrics become lumpy. Ruckus won't break out numbers on these two separate market segments on a quarterly basis, just annually, so it's hard to get a grip on things if you invest quarter to quarter.

Nevertheless, it's the business from the telecom carriers that may propel shares higher, so let's take a look at some of the initiatives the company is taking as stated by CEO Lo:

• "An important catalyst for the carrier Wi-Fi market is Hotspot 2.0 also known as Passpoint. Hotspot 2.0 enables the mobile device to automatically connect to any Wi-Fi access point belonging to the device users, service provider, or, the providers roaming partners. Apple (AAPL) recently announced support of Hotspot 2.0 in iOS 7, and a number of Android (GOOG) devices are already supported. Ruckus has been a strong sponsor of this technology."

  Ruckus is working with a number of partners in integrating their Wi-Fi technology into their smartphones.

• "Wi-Fi is the predominant method of connectivity for tablets. We believe that tablets are becoming a key driver for high capacity, reliable Wi-Fi in many of our market segments such as education, hospitality and mid-tier enterprise. Wi-Fi access is also becoming a customer service differentiator for public venue."

  Many service providers are offering managed wireless line service for public venues as a way to capture the tablet population and improve their hotspot footprint.

• "We acquired YFind, a pioneer in indoor positioning and real-time location analytics technology. The YFind team has developed capabilities that we intend to integrate with our Smart Wi-Fi to create a new class of location intelligence, high performance wireless infrastructure."

  ABI Research released a report that forecasts by 2017, this will be a $5 billion market.

On a continual basis, every quarter Ruckus adds new service providers to the roster. In Q2 it was fifteen, bringing the total to 90. They also won four MSO's, and are seeing that accelerate. Although there was momentum in the quarter, it can take multiple quarters before service provider design wins come to fruition. As CEO Lo cautioned: "I think from a pipeline perspective, we have always been very, very careful about forecasting service provider and there is always chances for surprises."

One happy accident that could be brewing is China. Visibility in their China business has improved, but sales in China have not caught up to historical levels. Ruckus management is taking a very cautious view on the country. However, a recent win with China Telecom may be a catalyst for future business. They work with additional operators in China in the build-out of "wireless cities". This is the concept of turning an entire city into a Wireless Access Zone. Everybody gets free Wi-Fi courtesy of the government.

If we examine the Yahoo Finance earnings projections, we can see that Ruckus is slated to earn $.04/share in Q3. Full year 2013 earnings estimates are for $.18/share, and $.27/share for 2014. For the current year, that's a P/E of 75, an expensive stock. Going out 16 months, we get a P/E of 50, still paying top dollar even though many analysts will begin crunching next year's numbers sometime in early Fall. Sales and earnings are expected to be in the mid 20% region for the next two years. This gives you a PEG (Price/Earnings/Growth) Ratio on the steep side for both this year and next.

I'm long the stock, and believe that there is a three to four year window of opportunity in the buildup of Wi-Fi hotspots on an international basis. With a lofty P/E Ratio, I may be courting disaster, but the potential opportunities for Ruckus in mind-boggling. They've got a lot on the drawing board, and have set the standard for Tier 1 telecom operators to make your wireless experience much more efficient and cost effective. I may be in for a rude awakening, but once a year has passed, a 25% profit could very well be in the cards.