Can Aruba Networks Return to Fantasy Island?

Shares of Aruba Networks (NASDAQ: ARUN  ) have seen a slight resurgence of late, growing 21% over the past three months and almost 80% since last July. But the promise the company once had has faded. At one point, there wasn't a hotter stock on the market. From January 2009 to April 2011, shares soared 1,300% from a low of $2.50 to more than $35. It was like something from a fantasy. Here was this small start-up competing with behemoths like F5 Networks and Juniper

Then reality kicked in. The stock plummeted 63% to last year's low of under $13.00. So what are we to make of this sudden recovery? And, more important, is it sustainable? According to analyst Rajesh Ghai of Craig-Hallum, not only will this recent move continue, but he believes Aruba has existing products and several more on the horizon that will outperform rivals. In many respects, I agree.

However, what will help Aruba more is the ongoing shift by large enterprises toward "bring your own device" policies, or BYOD. Though the security industry has always been strong with existing players such as Fortinet dominating corporate enterprises, the popularity of mobile devices caused an explosion. The BYOD phenomenon speaks to how employees have begun to demand to use their own personal hardware on corporate networks.

With security and compliance always an issue, this idea made CIOs shiver. But there were also significant cost benefits since this would be one less workstation or smartphone to budget for. And when you multiply this by, say, one-third of the employees, the savings become significant. What's more, since these were personal devices, they would require IT support.

That's all well and good. But these CIOs are still responsible for the data that residing on their network. What's to prevent a disgruntled employee from walking off with sensitive emails and documents? Although companies like Cisco  (NASDAQ: CSCO  ) and Check Point Software (NASDAQ: CHKP  ) offered IT managers peace of mind with wired aspect of security, BYOD was new territory as it required new policies since it was broadly predicated on Wi-Fi.

This dramatically altered the thought process. Businesses were caught off guard and forced to address WLAN functionality and the security that it required. And this could not be done without upgrading network backbones. Aruba Networks pounced on this opportunity. The company was able to offer IT managers solutions that rival those provided by Cisco and at a much lower costs.

Access to data, voice, and video applications delivered securely to mobile devices were just what the doctor ordered. Although Cisco and Check Point offered similar solutions, Aruba was able to stand out by essentially creating a market of its own. The company sought to meet those needs with superior technology and an impressive product portfolio.

In other words, Aruba's promise to the mobile user market was that they would receive the same level of access, security, and connectivity while on corporate networks. The stock responded. In fact, it was during that two-year period when corporations were scrambling to prepare their networks, not only for BYOD, but also for the cloud. They worked in tandem.

Then suddenly the stock started on a slow decline. But it was never a situation where Aruba stopped growing. The company has averaged more than almost 25% revenue growth the past five years. And for a relatively young company, it has one of the best balance sheets on the market, including $377 million in cash with zero debt. However, what has scared investors is that the competition appears to have caught up.

Granted, Aruba's wireless business was outperformed by Cisco in the recent quarter. But then again, Aruba grew revenue 21% in the recent quarter and as noted, it has grown revenue by almost 25% over the past five years. So the concern regarding Cisco is a bit exaggerated. Plus, Aruba's new ClearPass 802.11n wireless network is beginning to steal market share from Cisco in several areas.

For that matter, if Cisco is not careful, it may have to succumb to some margin pressure. Aruba is beginning to deliver some higher win rates. One of which is the Aruba Instant Enterprise, a product catered toward the distributed enterprise that delivers a controller-less Wi-Fi solution, designed for optimal security while offering scalability. The impressive aspect is that this does not require any physical or virtual controllers.

What's more, the Street should be encouraged by the acceptance of 802.11ac. This new standard has the potential to boost Wi-Fi networks to speeds that has only been seen on wired LANs. Essentially, for the same reasons CIOs and IT managers loved Aruba Networks in the early adoption of BYOD, they are going to fall in love with the company again. Plus, with the unveiling of these new products, investors should expect Aruba's revenue to begin to pick up in the coming the quarters.

The issue however, is with the stock. Now that it's made these gains over the past six months, are investors too late to the party? Not entirely. As noted above, Rajesh Ghai of Craig-Hallum is one of several analysts that cover the stock and has recently raised his target on the shares from $21 to $29, or 32% higher than a recent close of $22.

While there's still a bit of risk in these shares, the upside potential is equally appealing. Besides, with Aruba's strong books and impressive technology, I don't expect this company to stay independent for too long. Today, although Aruba is a small rival to the likes of Check Point and Fortinet, that may not be the case by the end of the year. 

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