We reaffirm our Neutral recommendation on Arris Group Inc. (ARRS) following its fourth quarter of 2010 financial results that barely met the Zacks Consensus Estimates. Arris has diversified its offering into digital video market.
In order to preempt competition, cable service providers are gradually shifting towards an all-IP triple-play converged architecture that will offer cost-effective solutions to their customers. In this context, Arris’ innovative IP video gateway solutions may become its major growth driver.
Arris stands to benefit from the intense competition between cable operators, satellite carriers, and telecom service providers for broadband market share. As residential VoIP and HDTV services continue to grow, operators are dealing with increased network traffic due to robust demand for video download and file sharing.
This massive requirement for data transport is benefiting Arris’ sales to cable operators, who are seeking to improve their transport offerings. In addition to the U.S., massive deployment of DOCSIS 3.0 technology in Europe and Latin America will also help its long-term growth.
Arris has established a strong presence in the rapidly growing cable modem, cable modem termination systems and embedded multimedia terminal adapter markets. The company has provided a strong financial outlook. Nevertheless, margin pressure is likely to continue in the near-future due to the impending completion of DOCSIS 3.0 deployment by U.S. cable MSOs.
The stock price also soared by more than 45% the last year. Customer concentration remains high for the company. Historically, the two major clients, viz, Comcast Corp. (CMCSA) and Time Warner Cable Inc. (TWC) , accounted for nearly 50% of total revenue. Loss of any of these customers would materially impact the company’s top-line growth.
Arris is gradually diversifying its operations in the international (outside of U.S.) markets. In the 2010, international businesses represents 35% of total revenue comapred with just 26% in 2009. Management forecasted that international sales will account for more than 40% in 2011.
We believe significant gorwth opportunities in Asia, particularly in China will help the company to achieve this target. Geographic diversification will reduces Arris’ dependance on U.S. cable operators.
However, Arris is solely dependent on cable operators for its revenue. Lack of industry diversification may result in limited business prospects. Potential shifts in industry dynamics may adversely impact cable TV service providers.
This is evident from the fact that large telecom carriers in the U.S. are increasingly expanding their high-speed fiber based network and satellite TV providers are also upgrading their networks. Cable MSOs are gradually losing their basic video customers to low-cost satellite TV and Internet video service providers.
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