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Could Arista Networks Become a Software Company?

By Brian Withers and Brian Feroldi - Apr 17, 2021 at 7:33AM

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A recent acquisition of an AI security specialist bolsters its case.

With its cloud-titan customers pulling back on spending, Arista Networks (ANET 2.58%) stock has trailed the S&P 500 over the last three years. But recently, the share price seems to have some more pep in its step as the stock has shot up over 50% in the last 12 months. What's the latest on this cloud data center hardware and software specialist? On a Fool Live episode recorded on March 31, Fool contributors Brian Feroldi and Brian Withers discuss the company's recent earnings, an important acquisition, and whether the company could become a software company over time.

Brian Withers: Let's move on to technology, we're talking Arista Networks, ANET. So their earnings came out, we haven't touched on Arista in this series. I want to just highlight on the earnings that was back mid-February. They hit $648 million, increase about 7% quarter-over-quarter. I always love to look at the SaaS companies and certainly in the coronavirus time quarter-over-quarter numbers. A 7% quarter-over-quarter number, if you do that four quarters in a row, that's 28% growth, that's pretty awesome.

Their year-over-year was about 17%. So that's the first time they've seen double-digits in a little while, gross margins were totally stable. Net income is down a bit, down 30% year-over-year. But that's really [because] they've been investing in innovation and the revenue hasn't been moving up as fast. I think that's a really good long-term play. But the revenue is going to have to come around in this upcoming fiscal year.

They acquired Awake Security, a network detection and response platform provider, wow, that's a mouthful. But hey, it's really just AI [artificial intelligence] state combined with human expertise and is now integrated into the platform. It's really a way to secure the data center. The integration bolsters, the features in their software services, and I'm really looking for that to help make their overall -- today's software is only 20% of their overall revenue and looking that to move up to 25.

They're sitting on almost $3 billion in cash and no debt. Cash is actually 13% of the market cap of this company. Absolutely amazing. Cloud titans continue to be a huge dependency with 36% of the revenue. But I'm watching for consistent execution in the coming year and really focused on [if it will be] hitting those double-digit growth rates and improving the software as a mix of the overall.

Brian Feroldi: Great. This company has always confused me a little bit because first off, it's hard to understand exactly what they do and what makes them special. The biggest knock I've always had against it this whole time is that it's a hardware company. I'm slowly changing my tune on them because as Tim has explained to me, yes, it's a hardware business model, but the real secret sauce here is the software. Do you think that this will become a "software company" in time or is the thesis long-term here just hardware?

Withers: I mean, you look at how big the hardware piece is. It's 80% of their revenue today, and if you think about what software you need to run data through a data center, I don't know that there's a huge amount of functionality and whatnot to get bits and bytes to run through a specific space.

Certainly, this cloud security piece is a great add-on and a tuck-in, but I don't know that it'll ever become an 80% software business. But I think they'll continue to have to do things like this purchase of Awake and continue to enhance their services because you lose a customer like Microsoft or Facebook, that's really going to be damaging for them long term.

Feroldi: Tim has explained it to me that yes, it's a hardware company, but the software ties it together just like Apple is a hardware company, but the reason people don't switch, myself included, is because of the software. While I don't pay for iOS, I wouldn't buy the hardware if it wasn't for iOS. [laughs]

Withers: That's a great comparison. I like that perspective.

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