A Broadband-Starved
Market
by Ivan Martchev
Personal Finance
Faster,
cheaper, betterthat's how the Internet will be in the 21st century.
DSL broadband standards are the newest step toward making this
happen.
Ask any real estate
agent to tell you what are the most important rules when buying
real estate and you'll always get the same answer: location,
location, location. The answer is similar for Internet infrastructure:
broadband, broadband, broadband.
Big businesses with
deep pockets have been enjoying fast Internet connections for
a long time. But smaller companies and consumers have just begun
to experience the joy of speeding with the top down on the information
superhighway.
Cable modems have been
at the forefront of the consumer broadband revolution, but digital
subscriber line standards (DSL) are on their way to becoming
another major bottleneck-buster for consumers and small businesses.
Although DSL technology
has been around for more than a decade, failure to agree on standards
early on was the main obstacle to popularizing the technology.
After agreeing on standards in the mid- and late `90s, DSL technologies
were slow to take off as the Baby Bells hesitated offering them,
fearing they would jeopardize their profitable T1 connections.
A landmark line sharing
agreement in 1999 forced the Baby Bells to open their networks
for competitive local exchange carriers (CLECs) to offer DSL
service on their lines. Since DSL preserves voice phone service,
CLECs and Baby Bells now compete, driving prices lower.
Some of the more leveraged
players to DSL's ascendancy are the intellectual property providers
such as High Stakes recommendation AWARE (Nasdaq AWRE
$28.63).
Remember, DSL is still
a new game. Investing directly into these companies isn't for
the faint of heart. If you're not willing to ride this market's
gyrations, the Baby Bells are peaceful alternatives. Whatever
happens, the Baby Bells will be collecting a great deal of the
DSL tolls Our favorites are Income Portfolio merging partners
Bell Atlantic (NYSE BEL $63.06), buy up to 65 and GTE
(NYSE GTE $73.88), buy up to 80, as well as SBC (NYSE
SBC $46.25), buy up to 50.
Consumer Is King
Buying
and installing DSL equipment is challenging, given the many standards.
But AWARE's new G.Lite DSL is already revolutionizing the industry.
In existing DSL technologies, a "splitter" separates
the voice band from the DSL band to protect both signals from
interfering with one another. Splitters are separate devices
and require expensive professional installation.
But G.Lite eliminates
the need for splitters with its modern chipset technology, which
makes it as easy as a regular modem to plug in and hook to the
Web, and it's 100 times faster than a modem. The standard is
probably the final development that will popularize DSL in the
bandwidth-starved consumer market and be the "Trojan horse"
for other technologies.
Product
sales, contracts and royalty earnings are growing like gangbusters;
revenues grew at 74 percent in the past year. Half of revenues
come from contract revenue (license, engineering development
and customer support fees).
AWARE is one of the
few small leveraged DSL stocks, emerging profitable in 1999.
And, despite its hefty multiples, it promises to be one of the
more exciting technology companies of the next 10 years. Aggressive
investors should buy AWARE under 40.
Ready For Take Off
Another
leveraged bet on DSL is Israel-based Orckit Communications
(Nasdaq ORCT $31). With a growing customer base of telecom operators
in more than 30 countries, Orckit is a major DSL supplier. Just
like AWARE, Orckit focuses on both design and manufacturing of
advanced high-speed digital modems focusing on HDSL, ADSL and
VDSL.
The company is firing
on all cylinders. In the fourth quarter ended Dec. 31, 1999,
revenues increased by 159 percent to $36.7 million. The company
achieved a leading market position in the ADSL area with shipments
of over 200,000 central office ADSL lines.
Orckit is spinning
off to shareholders its semiconductor business in the summer
of 2000. That'll make Orckit more flexible and increase exposure
to a broader set of clients.
Although small, the
company has a long list of clients like Income Portfolio holding
GTE, Telecom Argentina, Telefónica Argentina, Deutsche
Telekom, France Telecom and Telecom Italia. Given its international
presence, the Israeli company is a great bet on the advance of
DSL's worldwide adoption.
Not yet profitable,
Orckit's break-neck sales growth is soon to deliver on its promise
with exploding earnings in 2001. At 6.4 times sales, Orckit
is an aggressive buy under 45.
French Connection
The
most active big equipment maker in the DSL space, Alcatel
(NYSE ALA $44.44), has a 49 percent market share worldwide for
ADSL lines installed in central offices and a 33 percent share
of all ADSL modems (the "A" is for asymmetric) deployed
in customer premises. The company shipped an estimated 1.3 million
lines of ADSL last year and about 2.4 million ADSL chipsets.
The company just launched
an access server product supporting 80,000 concurrent sessions,
nearly 10 times the capacity of today's market leader. Alcatel
is also the first to commercialize VDSL technology ("V"
is for very fast). VDSL works for relatively short distances,
but is incredibly valuable since the last mile of fiber optic
cable generally carries the least traffic, making VDSL the perfect
cost-saving solution.
Sales of data networking
and optical equipment helped boost Alcatel's operating profit
12 percent for the fourth quarter of 1999 and 28 percent for
the full year. In the first quarter of 2000, the telecom-equipment
sector grew at a combined 40 percent rate, with overall company
revenue up 30 percent from a year earlier. And European companies
are starting to ramp up purchases of high-speed equipment to
catch up with their American counterparts.
The recent rally in
Alcatel shares was interrupted by the company's $7.1 billion
buyout of Newbridge Networks, a stumbled networking gear maker
that actually proved to be in better shape after the merger was
announced. Investors first sold, but then they found out that
Newbridge will beat fourth-quarter earnings estimates for the
second quarter in a row, after having a bad year beforehand.
Alcatel is recovering and only broad weakness in technology shares
after the Nasdaq selloff is keeping it from going higher. Buy
Alcatel up to 50.
Editor's Note: Ivan
Martchev is a Personal Finance Research Analyst. Personal
Finance, 1750 Old Meadow Road, Suite 301, McLean, VA 2210. 1
year, 24 issues, $69. Visit the Web site at: www.pfnewsletter.com.
