Aviat Networks – Not Connected Yet (NASDAQ:AVNW)

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Shares of Aviat Networks, Inc. (NASDAQ:AVNW) triggered my interest, as the company has been active on the deal front as of late, in a potential large transaction for this wireless microwave transport equipment provider. Not only is the deal very large, and it involves the potential acquisition of a much lower margin business, creating real risks related to closing and execution as well.

A Quick Into

Aviat describes itself a leading pure play wireless microwave transport equipment, software and service provider. Based in Austin, Aviat provides these solutions for radios, routers, software and services for a global customer base.

The company generates approximately two thirds of sales from its home turf, but has a presence in all major geographic regions. Some two thirds of revenues stem from products and the remainder from services. Its solutions are used in 5G, private networks, mobile and rural broadband applications as establishing but also upgrading capacity are key drivers for future growth.

For the fiscal year 2021, which ended in the middle of the year, the company posted solid double-digit revenue growth to $275 million in sales. After posting gross margins around 37%, Aviat posted a GAAP operating profit of $27 million and EBITDA number of nearly $33 million, for EBITDA margins close to 12% of sales. Revenues have been gradually increasing and with a solid net cash position, the firm was doing relatively well after it was long a sleeper stock at a relative modest valuation.

Shares of Aviat have been trading range bound between $5 and $10 between 2015 and 2020 but rallied to a pandemic induced high of $40 as connectivity was getting key, as shares traded around the $30 mark last summer. With a diluted share count of nearly 12 million shares, the company was awarded a $360 million market valuation at the time which included a $48 million net cash position, translating into a $312 million operating asset valuation.

This reveals that the valuation came in at just over 1 times sales. The company posted adjusted earnings at $2.26 per share, a number which falls towards the $2 earnings per share mark if we back out stock based compensation expenses. With net cash equal to roughly $4 per share, the operating asset valuation of $26 per share worked down to just 13 times earnings, albeit that 2021 was a strong year, certainly on the margin front.

A Mixed Bag

When the company posted its 2021 results last year, the company guided for a strong 2022 with sales seen at a midpoint of $288 million with adjusted EBITDA seen at $36.5 million, suggesting modest improvements on both the sales and margin front.

After a solid first quarter to the year 2022, Aviat announced a $10 million buyback program in November of last year when shares fell to the high-twenties already. Following resilient second quarter results, Aviat announced a smaller deal for Redline Communications in a near $13 million deal, a true bolt-on deal for the firm, given its size.

Early in May, the company posted third quarter results showing solid momentum. Revenues came in at $225 million in the first nine months of the year, for a run rate around $300 million which is ahead of the initial guidance. Operating margins trend around $30 million per annum which is better than last year, yet earnings trend around $2 per share as the effective tax rate has been inching up from low levels. Net cash stood at $34 million, following recent dealmaking and some share buybacks.

With just 11.7 million shares now trading at $25, the market value has fallen below the $300 million mark, for an enterprise value of around $260 million, now trading well below 1 times sales.

A Big Deal

After a late 2021 attempt to acquire Ceragon Networks failed, Aviat now has offered $2.80 per share in cash for Ceragon Networks (CRNT). This translates into a huge $235 million deal after offering a 51% premium over the 60-day average share price. The letter sent to its shareholders reveals that the deal is highly hostile, which is a bit of a risk as the deal is quite large. Ceragon is being offered approximately the same value at which Aviat is valued right now, as Ceragon’s enterprise valuation comes in at just over a quarter of a billion here.

Shares hardly reacted to the deal, which is surprising as the deal is equivalent to 50% of its own valuation here. That is quite surprising, as Ceragon’s trailing revenue base of $293 million is closely mimicking the near $300 million run rate of Aviat. The difference is that Aviat’s EBITDA margins of 12% are double those of Ceragon.

Investors undoubtedly like the potential for synergies here. Synergies should drive 6 percentage points accretion down the road, which translates into huge $36 million synergy estimates. Such realization would certainly make a deal worthwhile, but going hostile is not a great way to start this huge relationship.

A Dangerous Play

Truth is that I liked Aviat on a standalone basis, yet the company has been engaging in a huge move, which is far from certain. Paying a relatively large price for a struggling target introduces real risk, certainly given the hostility, but the huge synergy potential is certainly interesting as well.

Given all of this, the outcome will depend heavily on the outcome of the deal and if the deal goes through, if and which synergies can be achieved. Given all of this, I think that Aviat deserves a spot on my watch list, yet the huge uncertainty on the deal means that I am watching events unfold with great interest here, but for now I am not yet looking to be involved.

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