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3 Reasons to Check out This $4 Stock

By Chad Henage - Mar 12, 2014 at 7:30PM

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Just because a stock has a low price doesn't mean it's a bargain. However, in Alcatel-Lucent's case, this $4 stock looks like a good value.

Let's get this out of the way first, just because a stock is $4 doesn't mean it's cheap. In the same way, if a stock is priced at $1,000, it doesn't make it expensive. The price of the shares is a function of how many shares are outstanding, the cash flow and profits of the company, market dynamics, and many other things. Alcatel-Lucent (NYSE: ALU) has more than doubled in the last year, but there are still some who believe that this $4 stock is too cheap to ignore. There are three reasons to check out the stock, but none have to do with the current share price.

Improving existing operations
The company's existing business has improved. Alcatel-Lucent operates as two divisions: core networking and access. Core networking reported a sales decline of more than 7%, while the company's access business reported that sales were up by 15% at constant exchange rates.

Alcatel-Lucent counts companies such as Nokia ( NOK 0.80% ) and Juniper Networks ( JNPR 1.22% ) as its competitors. Juniper's largest division is its platform-routing division, which reported a 17% increase in sales. By comparison, Nokia's largest division saw a 22% decline in sales.

The sales increase at Alcatel-Lucent's access division is important, but the dramatic improvement in the division's operating margin over the last few years is even more important. In the first quarter of 2012, the access division reported an operating margin of negative 9%. By the third quarter of 2013, Access' operating margin turned positive, and in the current quarter this margin improved again to nearly 4%.

With an overall operating margin of 8%, Alcatel-Lucent isn't on par with Nokia's margin of 11% or Juniper's margin of 15%. But there are opportunities coming up that should improve Alcatel-Lucent's profile.

A huge opportunity
The company just announced a huge growth opportunity for the its IP platform's business. This part of Alcatel-Lucent represents less than 14% of the company's total revenue, but that may be about to change.

Alcatel-Lucent reported that its advanced data-management platform was selected by Verizon to enhance the company's LTE network. Verizon hopes that this solution will allow the company to manage its data traffic more efficiently and efficiently. With more than 90 million subscribers, Verizon's network business could help Alcatel-Lucent's core networking business return to growth, which would improve the company's overall profile.

An even bigger opportunity
While Verizon's domestic wireless network covers more than 300 million people, China Mobile's coverage extends to more than four times that number. While China Mobile selected Nokia and Ericsson to help with the rollout of its LTE business, Alcatel-Lucent was selected to install micro-cell base stations for the company.

Micro-cells are essentially tiny cell towers that are wired into an individual's or company's broadband connection. These devices are roughly the size of a household router. They help to offload network usage from the wireless operator to a local broadband connection and improve wireless coverage in the area around the micro-cell.

In the domestic market, most operators require customers and businesses to purchase micro-cells. Overseas, China Mobile and others are willing to spend money on micro-cells to improve their coverage and increase network usage.

China Mobile is expected to exceed 700,000 base stations, and Alcatel-Lucent will be a big part of this effort.

Final thoughts
With Alcatel-Lucent's access business improving, a huge opportunity from Verizon, and an even bigger opportunity from China Mobile, the company's growth should be impressive. These factors are behind analysts' expectations for better than 80% EPS growth over the next few years.

Shares look expensive based on projected 2014 earnings, with a P/E of more than 200. But on 2015 expectations, the shares trade for under 20 times earnings. Compared to growth of just 5% at Nokia, or 14% growth expected from Juniper, Alcatel-Lucent is playing in a different league.

Though competition is fierce and change is constant, Alcatel-Lucent seems poised to help wireless carriers improve their performance. As these companies improve, Alcatel-Lucent's profits should improve as well. It seems like this $4 stock could be a great play on the continued expansion of wireless networks worldwide.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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