VIAV

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 4/5

A global provider of network test, monitoring, and assurance solutions for communications service providers, cloud, hyperscale, enterprise, and other markets.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview: VIAV Solutions Inc. (VIAV) is a company that specializes in network test, monitoring, and assurance solutions. It operates in three main segments: Network Enablement (NE), Service Enablement (SE), and Optical Security and Performance (OSP).

  • Network Enablement (NE): This is VIAVI’s largest segment, providing testing and monitoring solutions for network infrastructure across various technologies like fiber, copper, and wireless. These solutions are essential for communications service providers, hyperscalers, and enterprises to build, maintain, and optimize their networks, particularly with the ongoing expansion of 5G networks. Key products include instruments, software, automation, and analytics.
  • Service Enablement (SE): This segment offers solutions for service assurance, performance management, and monitoring of network services, including application and performance monitoring solutions, analytics, and data visualization software. This caters to communications providers, enterprises and cloud operators that need to ensure a high quality of service.
  • Optical Security and Performance (OSP): This segment develops and manufactures specialized thin film coatings, optical filters, and related products used in various industries, such as automotive, aerospace, government, and security. The products ensure the quality of manufacturing of these complex components.

Industry Trends: The telecommunications sector is undergoing significant changes. This involves the expansion of 5G networks, increasing demand for fiber-optic equipment, and rapid growth in cloud computing and data centers. These trends are favorable for companies that offer solutions in network performance and optimization.

Revenues Distribution:

  • Geographically, VAVI’s revenue comes from the Americas, Europe, Middle East, Africa (EMEA), and Asia Pacific (APAC) and North America generates the largest portion of their revenue. Note that revenue is assigned to the geographic region where the company products are used and may not be indicative of where their customers are located.
  • By business segment, the NE segment generates the largest revenue. Service Enablement (SE) and Optical Security and Performance Products (OSP) are a smaller part of their revenue stream.

Margins: The company has a history of volatile gross and operating margins, although current margins are quite strong. The Gross margin is 58.7% and operating margin at 14.5% in most recent quarter.

Competitive Landscape:

  • The communications testing and monitoring market is fragmented, with various established and niche competitors. VIAVI faces strong competition from both larger, more established companies and niche startups, which keeps its market share and pricing under pressure,
  • The markets served by its segments are dynamic and highly competitive. The major competition comes from established companies, but startups are quickly catching up. These niche startups are more nimble than incumbents, and can quickly develop newer technology to take market share away.
  • In OSP segment, the company competes with several other manufacturers with similar products or components. These components are often commoditized, and the only way companies gain an edge is through patents or having a differentiated product.

What Makes the Company Different: VIAVI’s differentiation primarily stems from its breadth of offerings, which span multiple aspects of network infrastructure. Also, the company’s established customer base with the largest telecom companies and significant knowledge in these industries gives it an edge over competitors.

  • The company is trying to move from being a hardware provider into a software company. They are creating a software stack for every product and combining them into a single software stack.
  • VIAVI is uniquely positioned in the market by offering solutions across all layers of communication infrastructure, especially that the network infrastructure is becoming increasingly complex as new technology is introduced. They aim to be at the forefront of this evolution with their comprehensive portfolio, including products in design, monitoring, and testing.

Financial Analysis

  • The company has a market capitalization of about $2.7B. The revenue and earnings results of the most recent report is:
    • Total net revenue was $287.3 million, an increase of 7.8% from a year ago.
    • Net income was $34 million, an increase from a net loss of $12.8 million a year ago.
  • Looking at the last two years (ending July 2, 2022 and July 1, 2023), we can see strong growth of 17% and 11% respectively. Note that fiscal year for VAVI ends in July. Their margins were also very volatile between these years. Operating expenses have grown too.
  • Looking at quarterly financials, the company has shown good performance over the last 5 quarters. The business has grown revenue and profit with minor fluctuations each quarter. The management is confident of increasing revenues and margins.
    • Note: 2023 has a 53 week year, 2024 will be an extra weak, and revenue is expected to be lower than 2023. But the long-term prospects are still positive.
  • The company generates substantial cash flow from operations ($72.5M in the most recent quarter), but also requires substantial investments in new equipment and technology to keep up.
  • The revenue of the company is split between service (17.2%) and products (82.8%), as well as Americas (40.1%), Asia pacific (40.7%) and EMEA (19.2%).
  • VAVI’s net revenue has increased by $38.8 million, or 16.3% for the Optical Security and Performance (OSP) product line during the first quarter of fiscal 2023 compared to the same period a year ago. OSP growth was driven by continued increases in demand from industrial applications and aerospace. Network and service enablement are growing slowly. This suggests the future growth in OSP segment is extremely important for the company and it is currently the focus for the management to make it grow faster.

Risks to the Moat and Business Resilience:

  • Rapid technological change: The communication and semiconductor industries are fast-paced, so VIAVI must maintain a high pace of innovation, and not fall behind from competitors.
  • Dependence on a few large customers: Given its exposure to big telecom and tech companies, the loss of one key customer could negatively impact revenue.
  • Competitive intensity: They operate in highly competitive markets, so keeping its edge from competition through new offerings is a continuous effort. The business is susceptible to price competition, which might decrease margins and profits.
  • Customer Concentration: Although the company tries to diversify its revenue stream, the dependence on a small number of key players could pose a big risk to the overall revenue of the company if they decide to take their business elsewhere.

Balance Sheet Health: 4 / 5

  • VAVI’s balance sheet seems mostly healthy. The company has enough current assets to cover current liabilities and their debt/equity ratio seems manageable.
  • They have high levels of intangibles (about $1B) compared to its tangible assets, which can cause asset value fluctuations if there is a problem with the intellectual assets and other intangibles.
  • Although they have enough cash on hand, it may be better for the company to reduce their debt load for a better balance sheet in the long-term.
  • The goodwill was $418m in 2022, which is fairly high, and was partially reduced in the last quarter.
  • They have a huge amount of capital investment in the business but the rate of depreciation is low. This might result in a hit to the bottom line if they don’t replace or keep the equipment fresh.

Understandability: 3 / 5

  • While their business model is not very complex, they operate in many specialized industries (network infrastructure, telecom and tech, and specialized components and materials) and a good understanding of these is needed to analyze the company.

Management Concerns and Strategies:

  • In their most recent earnings call, the management seemed very confident about the business growth and their efforts to reduce costs.
  • They are focusing heavily on their growth strategy, particularly in their OSP segment. This includes development of new and innovative products.
  • The company has a strong focus on generating positive cash flows to help with further investments in new technology and expansions.
  • The current economic turmoil was brought up, but management believes they are on a clear path to long-term profitability and are mostly unaffected by the downturn.
  • The management is actively trying to reduce debt and costs for long-term stability.

Conclusion: VIAV is a company with a decent moat due to its unique offerings, established customer base, and strong presence in its industry. They are vulnerable to competition and might be affected by the ongoing global issues in their supply chain. The balance sheet appears stable. The management seems very competent and has a clear vision and strategy to grow the company. But due to the complexity and technicality involved in the telecom sector, it is difficult for an average retail investor to understand all the nuances of the business.