While the CEO of Finisar has been associated with the company for over 25 years, the average time that the rest of the executive management team has been in the optical components space is around 18 years. Undoubtedly, they have to understand how terribly unique their situation has become after years of mounting obstacles that have made its business quite unattractive in the recent past. The combination of the Street inexplicably driving up the valuation of a single company, Acacia Communications, to extremely unjustified levels, which positively affected other vendors in the market, along with the exploding demand for componentry in only one country, China, could not have been anticipated. It could be said with a high level of confidence that such a confluence of events will never happen again. Although we believe that Finisar still has room to somewhat improve its financial position in the market, it should look to exit right away while on the way up, as opposed to taking the risk that conditions in the market will remain favorable indefinitely. Most importantly, whenever things get back to normal, does it really want to be stuck again in an ever-worsening space to generate margins?
The biggest reason for Finisar’s short window of opportunity is our continuing belief based on intelligence gathering that Huawei Technologies intends to enter the optical components business. In fact, it would be hard to imagine why the Chinese vendor would just stand by and not look to get a piece of this action, particularly in its own country. The other advantage would be in potentially making substantial penetration into the US data center interconnect business, which will increasingly be moving in the direction of open line systems and white boxes. Even if the lunacy of a 5% or 10% tariff were to happen in the States for all imported products, Huawei would probably still be willing to substantially undercut competitors sufficiently to make it an attractive alternative.
Another compelling justification for Finisar exiting is the heavy reliance of its future growth being dependent on purchases in China. Although there is a lot of investment being planned on infrastructure in general, the country is being burdened with bigger amounts of debt reaching about 300 percent of its GDP as well as with asset bubbles threatening to burst.
With Finisar’s relatively high valuation, the only companies that may be interested in an acquisition might be only contract manufacturers or private equity firms. Alternatively, the vendor could divest its assets through a combination of sales of smaller portions of its business, possibly along with spinoffs.
One way that Finisar is playing hardball with its competitors, and is also resulting in a possibly higher value for the company across the board, is by openly discussing aggressive manufacturing capacity build-outs. It acts as a preemptive strike in making other players think twice about further additions in their own facilities for fear of creating an overcapacity problem in the marketplace. (Finisar may also be showcasing its VCSEL business for sale discussing adjacent market applications beyond usage in data centers – although we would have our doubts on any kind of tremendous growth levels with such future apps.)
The $500 million from a convertible notes issue could be used at least partially for expansion of production capacity as well as other items to help Finsar sell off its business. However, if some of the speculation is correct, and it is a means of acquiring Oclaro or other smaller players then it will be certain that Finisar is committed to remaining in the market for the very long term, a result that the company may easily regret down the road. Of course, if Huawei truly does enter the space, there may be a whole lot of consolidation taking place.
Please find details on our latest reports, Clash of Metro 100G Optical Vendors with Shifting Network Paradigm and Clash of Optical Component Vendors & Technologies in Data Center Networks here. For our seven-day a week updates, please click here.
[written by Mark Lutkowitz]