When Sierra Wireless (NASDAQ:SWIR) released first-quarter 2016 results last week, it might have seemed surprising at first to see shares of the Internet of Things specialist skyrocket more than 20% the following day. After all, Sierra Wireless' headline numbers didn't exactly look impressive; revenue fell 5.1% year over year, to $142.8 million, and translated to a 58.4% decline in net income, to just over $2.6 million, or $0.08 per share.
However, both figures came in well above the midpoints of the company's guidance, which called for revenue of $135 million to $145 million, and adjusted net income per share to be "slightly positive to slightly negative." As I wrote a few days before the report, Sierra Wireless also came in with a lot to prove. Shares were still reeling after the company fell short of expectations one quarter earlier, due to a combination of persistent macroeconomic headwinds, shifts in the timing of orders from a single automotive customer, and an ongoing transition by OEMs to a new enterprise notebook processor platform.
But this also reminds us Sierra Wireless' business isn't just about the top and bottom line. So I think investors would do well to dig deeper in an effort to better understand the underlying factors driving these results.
Lucky for us, management offers useful color on the business during each quarter's subsequent conference call with analysts. Here are five of the most important points they discussed during Sierra Wireless' latest call:
1. For OEM Solutions, it's all uphill from here
Looking forward, we expect our OEM Solutions business to rebound in Q2. And to gain strength for the remainder of the year, underpinning our outlook for growth is an expectation that demand from existing customers and programs normalizes and that revenue contribution from new programs ramps, as new customers or as these customers enter start-up production with their solutions. -- Sierra Wireless CEO Jason Cohenour
OEM Solutions still comprises the majority of Sierra Wireless' revenue, even after falling 9.1% year over year last quarter, to $120.9 million. But this result was expected as soft demand persisted at certain automotive customers as described during last quarter's call, and as the aforementioned enterprise notebook platform transition is largely complete. Cohenour also described "solid design-win success" at OEM Solutions during the quarter, with the team securing new programs in the automotive, mobile computing, energy, and security industries.
Despite what its revenue declines might seem to indicate, then, Sierra Wireless' OEM Solutions segment is still doing just fine, and remains poised to gain momentum and drive the company's overall results in the coming quarters.
2. Enterprise margins were strong (but not that strong)
Enterprise gross margin was exceptionally high in Q1 at 65.1%. A significant contributor to the GM result was the favorable impact to cost of goods of the legal settlement referred to earlier. Net of this favorable impact to COGS, gross margin in Enterprise was 52.5%. -- Jason Cohenour
For perspective, Sierra Wireless' bottom line benefited from a $2.3 million legal settlement during the quarter related to a component-quality issue with a supplier. And yes, earnings per share would have still exceeded expectations slightly even excluding this settlement. But the smaller Enterprise segment enjoyed a particularly large boost, and investors should be careful not to expect it to maintain greater than 65% gross margin going forward.
Then again, 52.5% is nothing to scoff at, especially considering Sierra Wireless' consolidated gross margin last quarter was "just" 31.5% excluding the settlement. This goes to show just how lucrative the Enterprise business -- which saw revenue climb 9% year over year last quarter, to $15 million -- can be. And its influence will only grow, as the company has slated new product launches and targeted investments in sales and channel growth to allow Enterprise to continue outpacing growth of OEM Solutions for the foreseeable future.
3. Cloud and Connectivity is collaborating its way to success
Our Cloud and Connectivity team is working closely with our OEM and Enterprise teams to integrate our devices with services to create compelling solutions and to secure new customers. I believe our collaborative model is working and that we're on a path to significantly grow our subscriber and revenue base over time. During Q1, we had strong customer acquisition success in this segment as well, securing new customer programs in the payment, energy and industrial segments. Our new customer wins were also diverse from a geographical standpoint, coming from Europe, Latin America and the U.S. Several of our wins originated in our OEM or Enterprise business units, including with long-term device customers, which provides an important proof point that device sales can lead directly to services sales. -- Jason Cohenour
Recall Sierra Wireless only began breaking out Cloud and Connectivity results late last year. The new segment's current financial contributions are comprised mostly of service-based contracts from recent acquisitions in the managed connectivity space including Wireless Maingate, Accel Networks, and Mobiquithings. But with a captive group of existing customers in its other segments, Sierra Wireless is smartly grabbing this low-hanging fruit in addition to new customers interested in their novel Cloud and Connectivity products.
In fact, during the Q&A section of the call, Cohenour stated the Cloud and Connectivity sales team received 60% of their leads from the other two business units. Going further, he also admitted, "If we had more financial capacity, we would probably be hiring a lot more Cloud and Connectivity sales people, to tell you truthfully."
4. On that "strong" guidance
Our Q2 2016 revenue guidance represents a strong sequential increase over Q1 and reflects expected normalizing demand with existing OEM customers and ramping contribution from new OEM programs, as well as stronger demand in Enterprise Solutions partially driven by new product sales. -- Sierra Wireless CFO Dave McLennan
More specifically, Sierra Wireless left investors celebrating after it offered guidance for second-quarter revenue of $150 million to $160 million, and adjusted earnings per share of $0.09 to $0.17. Here again, however, those numbers don't look overwhelmingly positive at first; compared to last year's first quarter, the mid-point of those revenue and earnings ranges represent year-over-year declines of 1.9% and 50%, respectively. But again, shareholders are rightly more than pleased as Sierra Wireless' growth drivers finally appear to be returning to normal.
5. Quantifying Sierra Wireless' longer-term growth story
Our three business segments now expose us to a much larger and more valuable market opportunity. In the aggregate, industry analysts predict in our three segments will represent a $20 billion market in 2020. We believe, we are now better positioned than ever before to capture a significant share of this opportunity. As Dave mentioned, we've recently been taking advantage of the value creation opportunity on our own stock and a repurchase shares on the open market. Notwithstanding this return of capital, we still expect to stay active in M&A to accelerate our strategy and to drive growth. -- Jason Cohenour
Finally, Sierra Wireless reiterated its previous guidance for full-year 2016 revenue in the range of $630 million to $670 million. So it's apparent the company still commands only a small slice of what could be a $20 billion total addressable market four short years from now. And though Sierra Wireless management understandably didn't assign a specific market share goal in these early stages of growth, Cohenour did state the company is "very focused on [...] driving sustained revenue growth beyond $1 billion, executing our gross margin accretive mix shift, and expanding operating margins."
Perhaps most enticing for investors with the patience to see it through, Cohenour succinctly summed it up: "We believe this formula will drive significant shareholder value."
Steve Symington has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Sierra Wireless. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.