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The Motley Fool's Top Stock for 2011

Discover the little company at the epicenter of the megatrend that's
changing the world as you know it.

It's not easy to put an investment opportunity of this magnitude into perspective. So allow me to start at the beginning...

The year is 1915.

By today's standards, it's a relatively low-tech era. There are no antibiotics... cars reach a top speed of 40 mph... and buildings do not have air-conditioning.

But to the people living at the time, it's an age of unprecedented advances in technology. And no piece of technology impacts early 20th century life more than the telephone. And it's about to take a huge leap forward...

AT&T has just completed the first transcontinental telephone line. It's a singular network that connects every major city across America.

Suddenly the world is much smaller. Conversations span thousands of miles. And information is shared instantly!

But, unfortunately, the general public doesn't benefit much from this new telephone network (at least not yet).

It's a luxury reserved for only the wealthiest of Americans. For example, a three-minute call from New York to San Francisco costs $20.70 -- well over $400 in today's dollars!

But three years later, our nation's telephone network is changed forever.

In the midst of World War I, the entire U.S. telecommunications industry is nationalized. And the government implements a groundbreaking policy.

It states every American is entitled to universal telephone service -- making reliable telephone service a right for all citizens.

This marks the beginning of the development of the world's best telephone system.

The technology that changes America

By the 1920s, thanks to the government, the telephone network is rapidly evolving. It's no longer used for just phone calls...

By 1925, the world's first fax machines send and receive images over telephone lines. By 1929, broadband coaxial cable is invented -- increasing call capacity and providing intercity transmission of "moving images," which paves the way for television. And, by 1935, the entire world is connected by a massive international communications network.

Now, wait a minute... fax machines and a global communications network were in use in the 1930s? That's a surprising fact. But despite these great advances in telecommunications early on, not even 50% of American households had a telephone in 1935.

In fact, it wouldn't be until 34 years later, in 1969, that almost all of Americans (90% of all households) had telephones. And, of course, fax machines and cable television wouldn't become commercially viable until much later.

OK, so why is this important? Well, a similar story is playing out today with another technology: the Internet.

Like the telephone in 1935, the Internet is a technology that's in its infancy and enjoyed by few. That may sound strange to you. After all, you are reading this report online right now.

But, the truth is, high-speed Internet access is a privilege -- available to only a minority of Americans. According to the Organization for Economic Co-operation and Development, the U.S. has 27 broadband subscribers per 100 people.

That means America, arguably the most powerful country in the world, ranks 15th in the world for broadband penetration.

And, what's even more startling is that those of us who do have broadband access are getting short-changed...

The U.S. is lagging behind

U.S. residents have a pathetically slow average broadband connection speed of 4.7 megabits per second. That's 60% slower than users in South Korea and 25% slower than users in Latvia and Romania.

Frankly, for the country that's home to tech giants like Google, Microsoft, and Apple, that's an embarrassment!

Oh, sure, you can do some amazing things online -- like watch movies, download music, or video chat -- but access is costly and slow.

If you regularly fork over $50 a month to suffer through grainy video, sluggish download speeds, and spotty connectivity, then you know the reality all too well. 

But this reality doesn't exist in other developed nations -- their Internet is cheap and super-fast. We are getting left behind. And perhaps in the future, the next Netflix, YouTube, or Amazon won't be founded and based in the U.S., but rather in another country, one that supports high-speed Internet.

Now, don't misunderstand: I'm not just talking about watching clips and Facebook updates here. I'm talking about our future prosperity.

Today, we live and work in a knowledge-based economy. There are economic opportunities that are being left on the table because we can't get our broadband Internet up to snuff.

And Americans aren't about to lace up their boots and go back to work in the mill. That ship has sailed...

The future is digital. And we are blowing it!

Right now, there are amazing technologies that can't be implemented -- and, more importantly, monetized -- unless we upgrade our broadband network.

These technologies can only be successful if we have the capacity to send and receive massive amounts of data at ultrafast speeds.

I'm talking about technologies that let surgeons operate on patients online hundreds of miles apart... the development of artificial intelligence...  and the proliferation of cloud computing -- a time when all your data and applications exist, not on your PC or single piece of hardware, but in a universal cloud of data.

Just as fax machines and cable television would have sounded like something out of "Buck Rogers" to people living back in 1935... these new technologies may sound just as far-fetched today. But with a reliable, high-speed broadband network in place, these technologies can become a reality.

But, if we don't act now, harnessing technologies like these will fall to someone else. Already, jobs and money that should be created and kept at home are instead finding their way overseas.

Luckily, there's a plan in the works designed specifically to prevent that from happening. It's a well-funded, government plan designed to put America back on top by turbo-charging the Internet. And it's unfolding right now...

The coming Internet expansion boom

This plan, created by the Federal Communications Commission, is called Connecting America: The National Broadband Plan. Its goal is nothing short of providing universal high-speed broadband access -- a massive network that connects every city, town, and hamlet across America.

(Sound familiar? History is repeating itself. And you have the chance to get in on the ground floor! Read on to get all the details...)

Julius Genachowski, Chairman of the FCC, calls this high-speed network, "indispensable for the 21st century... the foundation for our economy, the foundation for our democracy in the digital age."

And President Obama agrees. In fact, his administration recently paid out $1.8 billion to jumpstart high-speed Internet expansion. And that's just the beginning...

You remember when I told you Americans are entitled to universal telephone access? Well, government is slow to change (that's an understatement!). And universal telephone access is still a government policy.  

In fact, the FCC has maintained a fund to support universal telephone access for decades. Today, it's worth over $8 billion!

Recently, the FCC announced it's moving that money into a new fund called the Connect America Fund -- a fund specifically for supporting universal high-speed Internet access.

And thanks to additional government funding and grants, this Connect America Fund is projected to balloon by $16 billion in the coming months and years.

Now, remember, this isn't some pie-in-the-sky government boondoggle like a manned mission to Mars... this is actually happening. And the goal is providing high-speed Internet access to 99% of Americans in 10 years.

Including giving 100 million U.S. homes access to a download speed of 100 Mbps. (Currently, only 0.8% of the population has access to 100 Mbps.) That's a 2,000% increase in connection speed compared to today's national average speed.

And if you think a simple increase in the speed of the Internet isn't a big deal, think again.

According to studies from the Brookings Institution, the Massachusetts Institute of Technology, and the World Bank, modest increases in the use of broadband can create hundreds of thousands of jobs. 

This is truly an epic undertaking. And when it's completed, it will change everything. But there's a catch. There won't be a ceremonial "first call" like when the transcontinental telephone network was completed...

It will happen quietly

And by the time you hear about it on TV, you will have missed out on the investment opportunity of a lifetime.

As I write this, some of the largest broadband providers -- Comcast, Time Warner, and Cox -- are racing to be the first to spread their networks and cash in on government mandates for higher Internet speeds.  

You see, as the Internet becomes faster and faster, so will consumption. And consumption equals dollars.

Just think back to when your cell phone simply made phone calls. Now, after incredible advances in mobile technology, you can use your phone to check email, take photos, and listen to music -- transforming the way you use your phone and, in turn, fattening your wireless provider's bottom line.

The same goes for your broadband Internet connection. It's evolving. People are doing more and more online. And demand for higher speeds is skyrocketing.

Already, Internet consumption per user has increased 50% annually since 1982. And commercial broadband providers are preparing for that number to jump dramatically.

But there's a better way for you to cash in as an investor than to guess which broadband provider will reign supreme...

Who will profit most?

OK, let's get down to brass tacks here. You've been patient while I've laid out the scope of this tremendous opportunity, and now it's time to reveal how you can make some money off of it.

As you may know, broadband Internet travels on fiber-optic and coaxial cables owned by the cable companies. And as broadband Internet is expanded, more and more of these cables will be laid down.

But here's something you might not know: Your connection speed (i.e., maximum rate of consumption) isn't determined by these cables.

A broadband provider can't simply push down the throttle and boost your Internet speed. That task goes to the networks these cables hook into.

It's how fast these networks can compress large pieces of information and funnel them through the cable in the ground that determines your speed. And the speed of these networks is determined by hardware and infrastructure that's engineered according to DOCSIS (Data Over Cable Service Interface Specification).

Now, I don't want to get into the details of telecommunications specifications. I would need to add a few more chapters and make myself a couple pots of coffee to get through that.

So, I'll just say that broadband providers, like Comcast, don't build or code DOCSIS networks themselves. That would be like the Pentagon hiring soldiers to build an Abrams Tank. Modern soldiers are smart, but they aren't capable of building a tank from scratch.

Well, just like the Pentagon contracts with General Dynamics to build their tanks, companies like Time Warner hire a highly specialized company to build their DOCSIS-compliant networks.

This small company, one that you've probably never heard of, designs, engineers, and manufactures the infrastructure needed to create broadband networks. It sells the physical DOCSIS equipment that makes up the backbone of broadband infrastructure -- making this company's products indispensible.

And right now the country's largest broadband providers are turning to this high-tech company to upgrade their existing connections and grow their networks during this era of government-fueled broadband Internet expansion.

The future has never looked brighter for this company. In fact, now's your chance to snap up shares of this company (before it takes off!) while it's reaping massive profits during this historic time of broadband Internet expansion.

Click "Next" below to get the full details of this company -- including its name and ticker symbol...

The Backbone of a Megatrend

Full details of the little company cashing in on broadband Internet expansion.

The key moneymaking opportunity with broadband Internet expansion is, as I mentioned earlier, consumption. Currently, Internet consumption is doubling every 18 to 24 months.

And as the Internet reaches more and more people at faster and faster speeds, consumers will devour broadband products like HD video on demand, voice over Internet protocol (Internet telephone), live Internet broadcasts like March Madness, Netflix, and online gaming at a record pace.

That's why multiple systems operators (MSOs) such as Comcast are doing everything they can to meet consumers' insatiable demand for high-speed Internet services right now.

But faster download speeds mean cable companies will have to continually improve their networks. And Arris Group's [NASDAQ: ARRS] head ends, hubs, nodes, and other devices are the most efficient way for them to do that.

About the business

Arris manufactures the infrastructure needed to create broadband networks. This includes selling MSOs the physical equipment that will help them turbo-charge their networks as well as helping them with digital advertising.

Accounting for about three-fourths of revenue, the biggest part of Arris' business is its broadband communication systems unit. This part of the business helps send and receive data at high speeds, and it's what enables cable operators to provide voice over Internet protocol, video over IP, and high-speed data services.

All this is made possible through Arris' Cable Modem Termination Systems (CMTS). Cable operators need these pieces of equipment at their hubs to provide subscribers with broadband services. Arris has increased its CMTS market share over the past five years, even as industry giant Cisco's has dropped.

Arris is also dominant in Embedded Multimedia Terminal Adapters (EMTA) -- think broadband cable modems and voice over Internet protocol -- where it's been No. 1 globally for more than five years.

Perhaps most importantly, Arris' products conform to the latest international telecom standard, version 3.0 of the Data over Cable System Interface Specification (DOCSIS) -- the crucial telecommunications standard I mentioned earlier.

This keeps Arris' products relevant and sought-after as cable operators seek to upgrade their networks. In addition to its send-and-receive business, Arris' access, transport, and supplies business offers hybrid fiber-coaxial equipment, such as head ends, hubs, repeaters, and terminals, that make up much of the networks' physical infrastructure. That business accounts for about 16% of Arris' revenue and has a 24% gross margin. The high margin media and communication systems business (7% of revenue) helps MSOs with ad insertion, digital advertising, and video on demand.

Why you must invest now

In the race to provide the fastest connection speeds and the most reliable networks, MSOs have no choice but to continually reinvest in Arris' offerings or risk falling behind and losing valuable subscribers.

Sure, they can delay major capital expenditures for a while, but eventually they have to pay up or risk going the way of dial-up.

Because of these dynamics, they tend to invest at a rate just fast enough to barely leap-frog their competitors. But that rate of investment is increasing as the federal government steps in to boost U.S. Internet speeds to be the fastest in the world.

The FCC is determined to improve America's embarrassingly low ranking in world. And the $16 billion it's paying out with the Connect America Fund will give at least 100 million U.S. homes access to download speeds of 100 Mbps.

This ultra-fast Internet network is becoming a reality thanks to Arris' DOCSIS 3.0-compliant equipment. Arris is an indispensible ally in the effort to revolutionize our broadband networks.

But right now, only 0.8% of Americans have access to connections faster than 25 Mbps (even if you include universities and companies), and about a quarter of the population has speeds above 5 Mbps. We're a long way from 100 Mbps.

That makes now the perfect time to invest in Arris. We're still in the early stages here; high-speed Internet will continue to reshape our economy and our lives for decades.

Revolutionary new technologies -- such as smart grids that cut power-plant emissions while lowering consumers' energy costs and networks that connect first responders, law enforcement, and hospitals to help save lives -- all depend on faster broadband access.

And for cable companies that have invested in connections to our homes and businesses, upgrading to the DOCSIS 3.0 specification with Arris is the fastest and most cost-effective way to meet the demand for 100 Mbps speeds.

Plus, this need for speed isn't limited to the United States. Developed and emerging countries alike want the economic and social benefits that come with faster broadband. It's a global trend, and you can see it in Arris' sales. International sales accounted for 26% of total revenue in 2009, and that proportion rose to 37% in the first half of 2010. When looking at Arris' prospects, the market is missing this demand shift.

So, what is Arris really worth?

Already, Arris is profiting from the industry move to DOCSIS 3.0. The product shift to selling more DOCSIS 3.0-compliant CMTS and EMTAs has bumped Arris' gross margin to more than 40% in 2009 from about 35% in 2008. The company's EBIDTA (a way of calculating cash flow with Earnings Before Interest, Taxes, Depreciation, and Amortization) is about $150 million.

It's a bit surprising that a company so dominant in its core businesses has a market cap of just $1.4 billion -- clearly, Arris has room to grow.

But for now, with roughly half its market cap in cash and short-term investments and just $205 million in debt, it has an enterprise value of $983 million. That puts Arris' EV/EBITDA ratio (a ratio used to determine the value of a company) at just 6.5, which suggests that this business is incredibly cheap right now.

It might even be an attractive acquisition target for a larger competitor, such as Cisco, or one of its primary customers, such as Time Warner Cable or Comcast.

Using a free-cash-flow-to-firm model, top Motley Fool analyst Nick Crow values Arris as high as $15 per share, which is nearly 33% higher than its recent $11.30 price.

Risks and when to sell

Arris has to compete for business, which is tough because the industry it serves is pretty concentrated. Think about it: How many choices do you have for broadband access? It's limited, I'm sure. That's frustrating for Arris, too, as it leads to high levels of customer concentration.

In the first half of 2010, Comcast made up 21% of Arris' revenue, and Time Warner accounted for 17%. Together, they made up 53% of sales in 2009. Losing one of its major customers to a rival is the most obvious risk for Arris. As the MSO industry consolidates, each operator gains bargaining power and could force price concessions, compressing Arris' margins.

What's more, the operators tend to be highly leveraged, and as we witnessed during the credit crunch, even good companies can lose access to capital. If this happens to Arris' customers, they won't make any capital expenditures, and Arris' revenue will go out the window.

You should sell Arris if it loses either of its major customers. Or if its top two customers ever make up more than 70% of its sales. Likewise, if competition forced price concessions without a commensurate increase in volume, you should also consider selling.

This isn't a buy-and-hold-forever business. I expect you to profit because Arris' stock is cheap relative to its worth. But should it become overvalued, you should sell and pocket your profit.

The Foolish Bottom Line

Arris gives you a compelling opportunity to invest in the megatrend of growing broadband consumption. Industry competition, the national broadband plan, and a global push for increased bandwidth speeds act as catalysts to unlock the stock's value.

For now, the stock is cheap relative to its potential. But that won't be the case for long, so buy into broadband while it's still a bargain!

More ways to profit in 2011

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