AVNW - Aviat Networks: On A Dealmaking Spree

2023-07-31 18:10:51 ET

Summary

• Aviat Networks, Inc. has resorted to alternative deals since last year's hostile deal for Ceragon is off the table.
• The latest deal for the wireless transport activities of NEC creates some near-term risks, but certainly potential as well.
• Amidst all these moving trends, I am keeping a close eye on Aviat here, but am not engaging just yet.

Late in April, I believed that shares of Aviat Networks, Inc. ( AVNW ) had seen a partial re-rating. This came after the company announced a hostile deal attempt for Ceragon in the summer of 2022, as the relatively large deal and hostile nature created lots of uncertainty. With the prospects for the deal diminishing over time, a partial re-rating has been seen ever since.

Since my last take in April, Aviat shares have been trading stagnant as the company announced an interesting bolt-on deal for wireless activities from NEC, creating potential risks but certainly potential rewards as well.

Creating Perspective

Aviat Networks, Inc. is a player in wireless microwave transport equipment, software, and services. The solutions are provided for products like radios, routers as well as related software and services. Typical application include 5G, private networks, mobile and rural broadband applications, as the Austin-based business generates most of its business at home in the U.S.

After posting double-digits sales growth in 2021, the company reported a revenue number of $275 million on which GAAP operating profit of $27 million were reported, with margins coming in around 10% of sales. After long having been a sleeper stock, trading at just $7 pre-pandemic, Aviat shares rose to the $40 mark in spring of 2021, to trade in a $25-$40 range ever since.

During the summer of 2022, shares traded at $30, granting the business a $360 million valuation based on 12 million shares outstanding, as the company held a net cash position of $48 million at the time. With earnings power seen around $2 per share, valuations were non-demanding at $30 per share, certainly as net cash was reported around $4 per share.

Guiding for modest growth in 2022, the company announced a relatively large and hostile deal for Ceragon Networks last summer, valued at $235 million after offering a 51% premium for the shares. Ceragon posted a similar $300 million revenue number, yet EBITDA margins came in at just half the rate of Aviat, which caused uncertainty on top of the hostile nature of the deal. Offsetting this, Aviat pointed towards a huge $36 million synergy number, to be realized in connection to the deal.

After hiking the offer for Ceragon, that improved offer was rejected as well as prospects for this deal died down. By August of last year, Aviat posted a 10% increase in fiscal 2022 sales to $303 million, with operating earnings reported at $29 million, as earnings per share of $1.79 per share were a bit softer than I expected, due to a higher tax rate.

While it was quiet on the Ceragon front, the company posted an 11% increase in first quarter sales for 2023 to $81 million, although that operating margins fell a bit. Second quarter sales rose as much as 16% to $90 million, aided by a bolt-on deal for Redline which was announced after the Ceragon deal was off the table.

With earnings power still seen at $2 per share when shares traded at $33 in April, after shares have risen 30-35% from levels around $25 in the summer of 2022, I was a bit less upbeat. Still pegging earnings power at $2 per share, while net cash holdings fell to $2 per share, the valuation had risen to a much more reasonable 15 times earnings based on an unleveraged business.

Consolidating

Since April, shares of Aviat have continued to struggled along and now trade at $30 per share, having seen a retreat to the tune of around 10%. Days after I covered Aviat in April, the company posted its third quarter results.

Revenues rose by 12% to $83.5 million as operating profits were flat at $7.5 million, with earnings of $4.9 million, or $0.41 per share being down due to a higher tax rate.

Net cash fell to $16 million, just over a dollar per share based on a near 12 million share count. The company guided for full year sales at a midpoint of $344 million which implies a midpoint of $89 million in sales for the fourth quarter. Adjusted EBITDA is seen between $45.0 and $47.5 billion, implying a $10.5-$13.0 million guidance for the final quarter, after this number came in at $10.8 million for the third quarter. This looks quite decent if you ask me.

Days thereafter, Aviat announced a substantial other deal, with Ceragon now no longer in question. The company has reached a deal with NEC to acquire its Wireless Transport Business in a deal valued at $70 million.

The deal looks relatively compelling as the revenue contribution is pegged at $150 million per annum, set to be accretive to most earnings metrics in year one, with EBITDA margins seen as high as 11-13% in year two, suggesting a very low multiple has been paid if this is to be realized.

Greater diversification and offerings, as well as these synergies, should be the drivers behind the rationale for the deal. Moreover, both parties have been working together, making it likely that Aviat likely knows that it is buying into. Upon the news shares rose from levels in the high-twenties to the $30 mark, but the overall reaction was rather muted.

In terms of the deal component, terms call for a $45 million cash component and $25 million to be paid in terms of stock, involving the issuance of less than a million shares which will cause modest dilution, but note that revenues will expand by roughly 40% overnight to the $500 million mark. The deal makes that net cash of $16 million will turn into a net debt load of around $30 million, no big concern with pro forma EBITDA likely coming in around $50 million here as the acquired activities are posting flattish EBITDA (that is around the break-even line).

And Now?

The deal will increase risks quite a bit, as the NEC contribution is flattish on an EBITDA basis, which means that after depreciation and amortization charges, as well as associated interest costs, profitability of Aviat will likely fall at the start.

That said, if the 12% margins (as promised) are delivered upon, there is room for a dollar per share accretion (as an approximate) which means that real upside can be seen to the earnings numbers here.

Hence, the deal makes that both the risks and potential rewards have risen given the deal, as the outcome depends heavily on the integration of the deal and execution thereafter.

Given all this, I am still upbeat on Aviat Networks, Inc. stock here given the non-demanding valuations, but this becomes a show-me story until shares would fall to the mid-twenties, or upcoming results provide back-up to the substantial margin accretion projected by management.

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