SPIRENT Communications operates two core divisions: performance analysis (74 per cent of sales) sells testing hardware and software to network equipment vendors such as Cisco and Nokia, while service assurance (13 per cent) sells testing technology t
o network operators.
Strong sales at performance analysis over the past couple of years, particularly in wireless testing, will provide the platform for Spirent's growth. As mobile networks in developed countries move towards the fourth generation of technology, backwards compatibility with existing third-generation technology will be a key requirement. By investing wisely in this area, Spirent has ensured it is best placed to benefit from this change.
The increasing importance of wireless testing will help bring about a shift in Spirent's earnings profile. Although Spirent's management has demonstrated its ability to maintain margins in a difficult operating environment, lower-margin legacy products within performance analysis have hindered both profitability and top-line growth. The decline in this area has been mirrored by the growth in wireless testing, which generates better margins due to the increased complexity and higher service component. As legacy systems diminish as a percentage of overall sales, SVM expects Spirent's operating margin to increase.
Spirent's stock is trading on an estimated 2010 PE ratio of 12x, which places it at a discount to both its domestic peers and international competitors. SVM considers this to be unjustified when the company's growth opportunities and imminent margin enhancement are taken into consideration.
• Neil Veitch is an investment manager at SVM Asset Management. This article is for information and discussion purposes and does not form a recommendation by the manager to invest or otherwise.
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