Recently, LightReading commented on the current situation of NeoPhotonics and said that NeoPhotonics may become the target of mergers and acquisitions.

The following is the compilation content:

For the highly regarded optical network component developer and supplier NeoPhotonics, this is a very difficult month.

The company specializes in PIC (photonic integrated circuits) based coherent optical receivers, lasers and other products. In May of this year, the company pointed out that as of the June 30 quarter, revenue is expected to reach about 90 million US dollars, gross margin of 23% to 27%. At that time, its stock trading price was 6.86 US dollars, and the market valuation was about 320 million US dollars.

Then, the Trump administration threw a blockbuster: the authorities issued an executive order, and then the US Department of Commerce said “adding Huawei and its affiliates to the list of entities in the bureau.” Without the permission of the Bureau of Industry and Security, US companies cannot provide technology to any company on the list. If the US Department of Commerce believes that the sale of technology is detrimental to US interests, the agency will reject any claim. Huawei was officially listed on the entity list on May 21, but the action took effect on May 16.

This move has affected many companies, but for NeoPhotonics, the Huawei ban is a disaster. In the first three months of 2019, the Chinese supplier (including its subsidiary, Hisilicon), accounted for 49% of the total revenue of the NeoPhotonics $79.4 million. Overnight, half of the company’s business was seriously threatened.

Unsurprisingly, the company’s share price has fallen, and its market value has shrunk by about 40% in the past month.

Due to the ban on sales to Huawei, the company had to re-evaluate its ongoing business and issued a second-quarter profit warning on May 23, down from the previous estimate of $88 million to $93 million to $75 million. It is up to 80 million US dollars and is expected to have a gross margin of 10%-14%.

Like other companies, NeoPhotonics has also received a temporary respite to ease its direct impact on its business. The US Bureau of Industry and Security granted the company a temporary license to “send certain categories of products to Huawei within 90 days.” Some new orders from Huawei are even possible, which will improve the expected second quarter financial situation.

But the uncertainty rules have caused NeoPhotonics to restructure its business. “Our goal is to quickly reduce manufacturing and operating expense levels and achieve cash benefits at lower income levels,” NeoPhotonics CEO Tim Jenks said in a corporate earnings warning statement.

No room for manoeuvre

The company has few other options. In addition to tightening the belt, it depends on whether Sino-US relations are alleviated and whether Huawei’s name can be excluded from the list of entities. NeoPhotonics has been providing optical components for long-distance high-speed networks (400G/600G and above), which are then used by module and system suppliers to build their products. The company sold its short- and low-speed services in 2017.

However, this strategy of focusing only on certain types of products is that the company becomes vulnerable in some cases. As we have seen so far, this also makes all key customers feel uneasy. NeoPhotonics relies heavily on its key points. Customers, whose top five customers generated sales accounted for 87% of total revenue last year. So far, Huawei is its largest customer. In 2018, Huawei’s receivables reached 46%, and Ciena accounted for 24%, which is a very large proportion.  Other major customers include Cisco, Nokia (formerly Alcatel-Lucent Optical Business), Bonfire and Acacia (with DSP and optical modules expertise, and have become a new force in the 400G market).

Of course, Huawei hopes to continue to do business with NeoPhotonics as much as possible so that its 400G metro and long-haul optical system business will not be excessively damaged.

However, Ciena certainly does not want NeoPhotonics to encounter operational difficulties. It does not want its supply chain to be interrupted at the least, because Ciena hopes to use Huawei’s current difficulties to seek opportunities to further increase its market share.

For NeoPhotonics , Huawei, and Ciena, the worst case is that the ban on Huawei will last for a long time, and the impact on the component company is so serious that the company may gradually lose control and may go bankrupt.  Management program.  For these three companies, this will be a disaster.

However, Andrew Schmitt, co-founder of Cignal AI and optical industry analyst, said that this is unlikely to happen. He pointed out that Huawei is a “very important company to China.” The US continues to ban the potential impact of selling products to Huawei, which will lead to economic consequences that the United States and China do not want to see. “Logically, based on precedents, I don’t think the ban will last for more than a few months. After that, it will basically return to normal. Huawei is very dependent on American technology. We have seen this in ZTE before. ”

Andrew Schmitt added that even in the worst case, NeoPhotonics has enough important business to serve other customers, including Ciena and Acacia, to continue operations.

Will this make NeoPhotonics a target for mergers and acquisitions?

So, will someone suddenly take a shot when NeoPhotonics’s valuation is low? Is it vulnerable to aggressive acquisitions?

Schmitt denied that the company’s board of directors accepted the low offer. He believes that the company has value as an acquisition target, but it is far from the current market valuation. He pointed out: “The value of NeoPhotonics to companies such as Ciena and Acacia exceeds its profit and loss.”

Andrew Schmitt is not the only one who believes that at some point, M&A deals may be reached.  But only when the political and economic environment is calmer. In March of this year, analyst James Kisner wrote in Light Reading that NeoPhotonics is “one of the few optical companies to buy in a company with a market value of less than $400 million,” but James Kisner added. Tao, due to the strong correlation between the company and Chinese companies, has given potential buyers some concerns, especially considering the vague prospects of Sino-US trade relations.

Who might be interested? These companies are usually acquired by their peers. Recent examples include Lumentum’s acquisition of Oclaro and II-VI’s acquisition of Finisar, but who is interested and strategically willing to make such a move? Andrew Schmitt points out that Acacia’s strategic significance is to include key laser suppliers, and Ciena may also be in the future. See the value of such initiatives.

Of course, Huawei may be happy to acquire its key component suppliers, but until the Earth is “destroyed”, the US authorities should not allow this to happen.

At the same time, NeoPhotonics is doing its own preparations and is looking forward to safely passing through the storm. The company declined to comment on its plan to reduce costs, and declined to say whether it is negotiating with any third party on mergers and acquisitions, and is not willing to comment on whether it has received any offer in the near future.