Juniper Networks Inc. JNPR S
April 13, 2011 - 4:25pm EST by
dr123
2011 2012
Price: 37.85 EPS $1.14 $1.41
Shares Out. (in M): 535 P/E 33.2x 26.8x
Market Cap (in $M): 20,420 P/FCF 32.6x 26.0x
Net Debt (in $M): -1,355 EBIT 785 970
TEV ($): 19,065 TEV/EBIT 24.3x 19.7x
Borrow Cost: NA

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Description

  

Summary

We recommend taking a short position in JNPR networks.  We believe FY 2011 will see revenue growth disappointment upon the anniversary of the adoption of new accounting rules, leading to the disappearance of a material revenue benefit and tougher comps.  An historically unprecedented level of (statistically significant) insider sales provides strong circumstantial support of the upcoming revenue weakness.  We did not find discussions of these issues in our (admittedly limited) review of the sell-side research.

 

Given the complexity of JNPR, a comprehensive analysis of the business is beyond the scope of this write-up.  We believe the high-level revenue growth headwind to be of sufficient magnitude to make it very unlikely that a cyclical acceleration of revenue growth or idiosyncratic business developments can back-fill the 2011 expectations gap.  A survey of the recently launched products and their projected sales ramp confirm this.

Adoption of the New Accounting Standards

In the Q1 2011 10-Q, JNPR disclosed that the adoption of a new accounting standard starting in FY 2010 lead to recognition of revenue in excess of what would have been previously reported:

 

Note 2. Summary of Significant Accounting Policies

Recent Accounting Policy Changes

Revenue Recognition

In October 2009, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2009-13, "Multiple-Deliverable Revenue Arrangements" ("ASU 2009-13"). ASU 2009-13 changes the requirements for establishing separate units of accounting in a multiple element arrangement and requires the allocation of arrangement consideration to each deliverable to be based on the relative selling price. Concurrently with issuing ASU 2009-13, the FASB also issued ASU No. 2009-14, "Certain Revenue Arrangements That Include Software Elements" ("ASU 2009-14"). ASU 2009-14 excludes software that is contained on a tangible product from the scope of software revenue guidance if the software component and the non-software component function together to deliver the tangible products' essential functionality. The Company early adopted these standards on a prospective basis as of the beginning of fiscal 2010 for new and materially modified arrangements originating after December 31, 2009. As a result, net revenues for the first quarter of 2010 were approximately $25 million higher than the net revenues that would have been recorded under the previous accounting rules. The increase in revenues was due to recognition of revenue for products booked and shipped during the first quarter of 2010, that contained undelivered elements for which the Company was unable to demonstrate fair value pursuant to the previous standards. Under the new standards the Company allocates the total arrangement consideration to each separable element of an arrangement based upon the relative selling price of each element.

 

CSCO adopted the same accounting standard in the first quarter of fiscal 2010 (the quarter ending 10/24/2010).  Though the magnitude of the adjustments was significantly lower (~0.5% increase in reported FQ1 2010 revenue vs. the previous accounting method) than JNPR's.

 

The filings contain detailed discussion of the nature of this accounting change.  A key aspect of it is the unsustainable boost to the reported revenue growth as revenue booked under the new rules is compared to revenue reported under the old ones.  To arrive at an "apples-to-apples" comparison of quarterly revenue figures, reported revenue under the new guidelines needs to be adjusted back to the old rules.  Footnotes provide the required adjustments.  For instance, from JNPR's 2010 10-K:

 

As a result of the adoption of ASU 2009-13 and ASU 2009-14, net revenue for the year ended December 31, 2010, was approximately $237 million higher than the net revenue that would have been recorded under the previous accounting rules. The increase in revenue was due to recognition of revenue for products shipped during the period which included approximately $183 million in the year ended December 31, 2010, related to undelivered product commitments for which we were unable to demonstrate fair value pursuant to the previous accounting standards. The remainder of the increase in revenue for the year was due to products sold into multiple-year service arrangements which was recognized ratably under the previous accounting standards and for the change in our allocation methodology from the residual method to the relative selling price method as prescribed by ASU 2009-13.

 

The reported and adjusted revenue figures for CSCO and JNPR following the adoption of the new revenue recognition rules follow:

 

CSCO

 

1/31/2011

10/29/2010

7/30/2010

4/30/2010

1/29/2010

10/30/2009

Reported Revenue

   10,407.000

   10,750.000

   10,836.000

   10,368.000

     9,815.000

     9,021.000

YoY Change

6.0%

19.2%

27.0%

27.0%

8.0%

-12.7%

Impact of New Accounting Guidance

 

 

 

         80.000

         25.000

         48.000

Impact as % of Revenue

 

 

 

0.7%

0.2%

0.5%

Pro-forma Revenue (Prior Guidance)

   10,407.000

   10,750.000

   10,836.000

   10,288.000

     9,790.000

     8,973.000

YoY Change

6.0%

19.2%

27.0%

26.0%

7.7%

-13.1%

 

JNPR

 

12/31/2010

9/30/2010

6/30/2010

3/31/2010

12/31/2009

9/30/2009

6/30/2009

3/31/2009

Reported Revenue

     1,189.941

     1,012.407

       978.300

       912.618

       941.454

       823.912

  786.363

  764.183

YoY Change

26.4%

22.9%

24.4%

19.4%

1.9%

-13.0%

-10.5%

-7.1%

Impact of New Accounting Guidance

       109.000

         50.000

         53.000

         25.000

                -  

                -  

          -  

          -  

Impact as % of Revenue

9.2%

4.9%

5.4%

2.7%

 

 

 

 

Pro-forma Revenue (Prior Guidance)

     1,080.941

       962.407

       925.300

       887.618

       941.454

       823.912

  786.363

  764.183

YoY Change

14.8%

16.8%

17.7%

16.2%

1.9%

-13.0%

-10.5%

-7.1%

 

JNPR's Q4 2010 received the largest benefit from the new rules, ~9% of revenues.  The use of the new methodology has now anniversaried and this one-time benefit will disappear.

 

Most of the difference in the reported growth rates between JNPR and CSCO can be attributed to the different impact of the adoption of the new accounting guidance.  In fact, CSCO appears to have been growing faster than JNPR in calendar Q1-Q3 2010 on an apples-to-apples basis, though experienced a sharper deceleration in Q4.  JNPR's growth rate also appears to be decelerating, contrary to the acceleration seen in of the reported numbers.

 

Q1 2011 JNPR consensus revenue estimates call for 20.1% YoY growth, which would require 23.5% growth from the pro-forma figure (absent the benefit of the adoption of the new rules), well above the recent trend of ~15-18% and requiring a sequential acceleration of 8.7%.

 

The FY 2011 JNPR consensus Revenue estimates call for 19.3% YoY growth, which would require 26.7% growth from the adjusted figures, or an acceleration of 11.9%.

 

We view such revenue growth acceleration as extremely unlikely since over the past cycle it has been achieved only off of poor comps:  11% YoY revenue growth acceleration in Q3 2007 after 10% deceleration in H2 2006 and 15% YoY acceleration in Q4 2009 - Q1 2010 from terrible Q4 2008 - Q1 2009 comps (15-21% YoY deceleration).  Given the tough comps and mature cycle, there is no historical precedent for an increase in the revenue growth rate necessary to meet the 2011 estimates..

 

The increase in reported revenue also boosted reported margins and EPS.  We believe EPS received >10% benefit in Q4 (a detailed estimate has a wide range depending on the margin assumptions).

Insider Transactions

Given the unprecedented volume of recent insider sales we checked whether such sales are predictive of future stock returns by: downloading all insider transactions going back to 01/01/2001, calculating the total of shares sold in each quarter, calculating the 3mo and 6mo return following the sales.

 
There have been no quarters with the same magnitude of sales as Q1 2011 over the past 10 years.  Excluding Q1 2011, there have been 9 quarters with sales exceeding 1MM shares.  In 8/9 cases, following sales exceeding 1MM shares/q 3mo returns have been negative and in 7/8 6mo returns have been negative:
 
 

Date

Ownership Change

Price

3mo Change

6mo Change

3/31/2011

                        (2.90)
              42.08

 

 

12/31/2010

                        (1.21)

              36.92

14%

 

9/30/2010

                        (0.44)

              30.35

22%

39%

6/30/2010

                        (0.78)

              22.82

33%

62%

3/31/2010

                        (1.25)

              30.68

-26%

-1%

12/31/2009

                        (0.69)

              26.67

15%

-14%

9/30/2009

                        (1.06)

              27.02

-1%

14%

6/30/2009

                            -  

              23.60

14%

13%

3/31/2009

                        (0.09)

              15.05

57%

80%

12/31/2008

                        (0.01)

              17.51

-14%

35%

9/30/2008

                        (0.74)

              21.07

-17%

-29%

6/30/2008

                        (0.19)

              22.18

-5%

-21%

3/31/2008

                        (0.24)

              25.00

-11%

-16%

12/31/2007

                        (1.17)

              33.20

-25%

-33%

9/30/2007

                        (1.26)

              36.61

-9%

-32%

6/30/2007

                        (0.19)

              25.17

45%

32%

3/31/2007

                         0.01

              19.68

28%

86%

12/31/2006

                         0.01

              18.94

4%

33%

9/30/2006

                         0.00

              17.28

10%

14%

6/30/2006

                        (0.02)

              15.99

8%

18%

3/31/2006

                        (0.26)

              19.12

-16%

-10%

12/31/2005

                        (1.40)

              22.30

-14%

-28%

9/30/2005

                        (1.18)

              23.80

-6%

-20%

6/30/2005

                        (1.40)

              25.18

-5%

-11%

3/31/2005

                        (0.61)

              22.06

14%

8%

12/31/2004

                        (1.03)

              27.19

-19%

-7%

9/30/2004

                        (0.05)

              23.60

15%

-7%

6/30/2004

                            -  

              24.57

-4%

11%

3/31/2004

                            -  

              26.02

-6%

-9%

12/31/2003

                            -  

              18.68

39%

32%

9/30/2003

                            -  

              15.00

25%

73%

6/30/2003

                            -  

              12.47

20%

50%

3/31/2003

                            -  

                8.17

53%

84%

12/31/2002

                            -  

                6.80

20%

83%

9/30/2002

                            -  

                4.80

42%

70%

6/30/2002

                            -  

                5.65

-15%

20%

3/31/2002

                            -  

              12.62

-55%

-62%

12/31/2001

                            -  

              18.95

-33%

-70%

9/30/2001

                            -  

                9.70

95%

30%

6/30/2001

                            -  

              31.10

-69%

-39%

3/31/2001

                            -  

              37.96

-18%

-74%

 
For fun, we also regressed the trailing returns against insider sales:  P-value is 0.023 with the predicted return of -37%±21%.
 

While one can be justifiably skeptical of the value of such quantitative analysis of insider transactions, we view them as strongly supportive of our revenue-related observations.

Conclusion

We believe the true YoY revenue growth rate for JNPR in 2010 has been in the 15-17% range vs ~25% reported and EPS have benefited by 5-15% in recent quarters from the adoption of the new accounting guidance.  As the revenue recognition methodology anniversaries in FY 2011 we see downside to the revenue and EPS estimates and for the stock to trade in the $21-35/share range at 15-25x F12M EPS.

Catalyst

 

Revenue miss in FY 2011

EPS and margin misses in FY 2011

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