Bridgewater Systems (BWC.TO) Q3 2009 Preview: Will momentum continue?

Earlier this month, BWC stock peaked at $9.80 per share, more than quadrupling the share price of $2.17 as it entered 2009. It has come off those highs since and it looks like it is now trading in the mid $8 range ahead of its Q3 financial report, which is scheduled to be released at 7:00AM on November 5, 2009. The investor conference call is scheduled for 8:30AM that day, and the call-in numbers are:


After a remarkable run since the beginning of the year, investors may wonder how much upside remains in the stock. As a reminder, performance for H1 2009 was as follows:

Revenue: $30.2 million, a 48% improvement over H1 2008 reported revenue.
Net Earnings: $7.0 million, or $0.29 EPS, a massive improvement over $0.6 million or $0.02 EPS reported for H1 2008.

During the Q2 conference call, Management increased full-year guidance to $58.0 to $62.0 million in revenue, and net earnings ranging between $8.0 million and $10.0 million. With H1 EPS reported at $7.0 million, guidance implies that EPS should drop for H2 2009 to between $1 million and $3 million. The stock is currently trading at approximately 21x top-end full-year EPS guidance at a share price ranging between $8.55 and $8.60 as of this morning. Is this expensive?

First of all, investors have been pricing in some of the value of the Verizon Widespan deal, which was announced in September and is worth over $18 million to BWC, implying a 30% bump in revenue and potential earnings over FY 2009 top-end guidance.

Secondly, With a 21x P/E ratio, the market may also be expecting the Company to exceed the top end of EPS guidance for the remainder of this year. Is this a reasonable expectation?

Although expenses may increase as a result of various 4G LTE and WiMAX pilots being deployed by BWC around the world, gross margins should remain in the mid 70s for the remainder of the year, which should help it to maintain current EBITDA margins. To obtain the bottom-end of EPS guidance, H2 revenue growth and earnings would need to collapse, and this does not seem plausible at this point. During FY 2008, H2 represented both the majority of revenue and earnings. With increased pilot expenses, the top-end of guidance could be plausible if the company simply maintains its current revenue trajectory. However, wireless broadband ecosystem conditions point to potential increasing revenue trajectory for BWC for H2, 2009, especially for Q4 and through to at least 2012. This would imply that both H2 revenue and earnings could come in above guidance.

Here are some mobile ecosystem conditions (sourced from Morgan Stanley via TechCrunch) that will benefit BWC until at least 2012:

- Mobile Internet is growing faster and is becoming bigger than expected.Will be 2x bigger than fixed Internet by 2012 and 3x bigger by 2014 (measured by usage).
- More applications and more media than ever expected due to the growing impact of social media.
- Network capacity needs to grow at rates previously unanticipated and carriers will have serious challenges keeping up to demand while maintaining quality service.
- 3G/WiMAX penetration is expected to triple between 2008 and 2011 (see DWI.T)
- Leading indicator - Apple iPhone has captured 11% of the smartphone market, but represents 65% of current mobile internet usage. Android owns 2% of the smartphone market and 8% of mobile internet usage. As these two OS/device ecosystems roll-out around the world, (and Google is just starting) there will be an exponential increase in mobile internet usage, which will create network capacity issues, subscriber complexity, and QoS challenges. This is Bridgewater Systems' sweet spot.

See this slide show from Mary Meeker at Morgan Stanley to gain better perspective.

So what is the conclusion? Due to conservatism, BWC should exceed its published guidance for H2 2009. Market conditions suggest that there is a good probability that BWC could exceed analyst expectations for H2 2009, too. The mobile infrastructure market did not experience the full brunt of the world recession, and market conditions are setting up for higher growth exiting the recession, with unknown levels of potential surprise upside. As BWC emerges, expectations are increasing, which creates some volatility. However, for investors that are long in the mobile ecosystem, BWC probably still has a lot of upside from the mid-$8 level.

Disclosure: I own shares of BWC, I do not own shares of DWI.

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