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Netgear's Q1 Surprise Didn't Matter: Investors Hate Uncertainty

By Anders Bylund - Apr 24, 2020 at 6:51AM

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The network-equipment maker's reported results came in strong, but the next few quarters look both murky and difficult.

Network-equipment maker Netgear (NTGR -1.23%) reported first-quarter results on Wednesday evening. The company crushed its own guidance and Wall Street's expectations, but also withdrew every trace of financial guidance due to the uncertainty caused by the COVID-19 crisis. Market makers were quick to focus on the downside of that coin, sending Netgear's stock price sharply lower.

Netgear's first-quarter results by the numbers

Metric

Q1 2020

Q1 2019

Change

Analyst Consensus

Net revenue

$230 million

$249 million

(7.6%)

$214 million

GAAP net income (loss)

($4.17 million)

($0.42 million)

(892%)

N/A

Adjusted earnings (loss) per diluted share

$0.21

$0.60

(65%)

$0.16

Data source: Netgear. GAAP = generally accepted accounting principles.

Three months ago, Netgear's management expected first-quarter revenue to land near $213 million at a non-GAAP operating margin of approximately 2.5%. The reported figure trounced these guidance targets, including an adjusted operating margin of 3.6%.

COVID-19 lockdowns weighed heavily on Netgear's sales to small and medium businesses, but also boosted demand for consumer-grade networking solutions.

"Consumers are quickly finding out that high-performance WiFi at home is a necessity and are rushing to upgrade their home WiFi, driving upticks in our consumer WiFi and mobile hotspot sales," said CEO Patrick Lo in a prepared statement. "We also saw significant channel shift from physical retail channel purchases to online purchases which put a strain on the logistics of some of our online sales partners."

These puts and takes worked out to strong top-line sales and solid profit margins in the first quarter, but the road ahead may be difficult. The rush to set up dependable WiFi networks at home is bound to run out of gas at some point, while businesses continue to face the same challenges that limited their network equipment orders in the first quarter.

A young man leaning sideways on a soft couch, smiling at his wireless tablet computer.

This young man is a good example of Netgear's strongest target market right now. Image source: Getty Images.

The big picture

Netgear can't wait to get back to normal operations, where the company can market next-generation solutions such as WiFi 6 routers, Nighthawk Pro Gaming products with ultra-low latency, and user-friendly mesh networks. The coronavirus pause may cause Netgear to lose the early lead it built in these technologies much too early.

"We now have three different WiFi 6 Mesh products in the market with two-pack pricings at $229, $449, and $699 to suit homes of different sizes," Lo said on the earnings call. "Our two major competitors in the market have yet to introduce a single competitive product."

Moreover, the company added 50,000 subscribers to its paid security and network management services in the first quarter, growing the subscriber Rolodex to 228,000 names. Netgear is quietly building a dependable source of subscription revenue here, and this idea is a key component of Netgear's plan to widen its operating margins over time.

A simple infographic showing how a large subscriber base leads to stronger profit margins.

Image source: Netgear.

Hold your horses

Investors shrugged off Netgear's strong first-quarter results to focus on headwinds like the hamstrung WiFi 6 Mesh advantage and limited production volumes in a corona-constrained world. The stock fell as much as 18.2% in Thursday's trading and closed the day 16.8% lower. I'm often quick to call it a buy-in opportunity when a quality business with a market-leading technology portfolio and a solid management team suffers a huge single-day blow like this one, but I'm not so sure in this particular case.

Both the consumer and small-business markets for network equipment are up in the air right now, and it's impossible to say where the chips will land in this rapidly changing business environment. The market visibility should clear up significantly over the next couple of quarters. Until then, you're better off parking your assets in the blue chip titans of the trade.

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