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Fiber optics component supplier Finisar (NASDAQ: FNSR  ) seems to have turned its telecom business around. The company was feeling the heat due to tepid carrier spending and price reductions, leading to concerns among analysts and investors. But management remained optimistic that telecom revenue would improve and that’s what happened in the recently reported first quarter.

Telecom rebounds
After a sequential drop of 12% in the fourth quarter, revenue from telecom products increased 2.7% in the previous quarter, sequentially. The increase was led by an increased adoption of Finisar's products and strength in telecom spending.

Going forward, Finisar expects its telecom business to grow at a faster rate as its products gain more traction and the spending environment further improves. Telecommunication products accounted for 30% of Finisar's revenue in the previous quarter. So a positive outlook in telecom, along with sustained strength in its datacom business, is good news for Finisar investors. 

Finisar's outlook for the ongoing quarter reflects the strength in its end markets. Management guided for revenue between $277 million and $292 million and expects earnings between $0.37 and $0.41 per share. In comparison, analysts were expecting earnings of $0.31 per share on revenue of $273 million. 

What's driving telecom?
The uptick in the telecom business has been long overdue. Finisar counts telecom equipment supplier Ciena (NYSE: CIEN  ) as a customer, which in turn has AT&T, Verizon, and a number of international customers. Ciena reported results a day before Finisar did and unsurprisingly, its guidance was better than estimates. 

Ciena witnessed an increase in orders in the previous quarter that led to a record backlog. It has design wins at several international Tier 1 customers and expects them to begin spending in the ongoing quarter.

Throw in the LTE expansion by AT&T and Verizon's small cell deployment to make its 4G network better and it is not hard to see why Ciena guided for $550 million to $580 million in revenue while analysts were expecting $551 million.

In addition, Finisar CEO Eitan Gertel stated that demand from China is also picking up as more base stations are built. This might be a reference to China Mobile (NYSE: CHL  ) , which recently awarded initial contracts worth $3.2 billion for building its 4G network. The telecom giant intends to build 207,000 base stations as it rolls out its 4G network.

China Daily newspaper reported earlier this year that China Mobile will increase its capital spending by almost 50% this year to $30.5 billion with most of it expected to be spent on the 4G network. Hence, the prospects for Finisar's telecom business seem bright going forward. 

Datacom continues to gain
Revenue from Finisar's data communications business increased 12.5% on a sequential basis in the previous quarter to $184 million. This side of Finisar's business has been doing well and given the strong demand for its products for data centers, the positive momentum looks set to continue. 

Finisar management is of the opinion that data centers wouldn't increase just in number but in size as well, and spending will continue to remain strong to address the need for higher bandwidth. According to Infonetics, there are over 500,000 data centers in the world and Finisar is eyeing higher optical content in them as their size increases to manage higher-speed connections.

Moreover, according to TechNavio, the global data center construction market is expected to grow at an annual rate of 15.8% through 2016. Finisar seems well positioned to capitalize on this growth with its strong product portfolio while presence of customers such as Cisco is another advantage. 

The takeaway
With Finisar's telecom business now growing and prospects in datacom looking strong, investors can expect strong performances going forward. Also, the company is almost debt-free and trades at a cheap 12 times forward earnings. All this makes Finisar a good investment even after its solid run up this year.

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Related Tickers

9/27/2016 4:02 PM
CHL $61.54 Up +0.39 +0.64%
China Mobile CAPS Rating: ****
CIEN $22.65 Up +0.62 +2.81%
Ciena CAPS Rating: **
FNSR $30.10 Up +0.95 +3.26%
Finisar CAPS Rating: ***