It’s been a solid year for Ericsson (NYSE:ERIC), with shares of Ericsson stock going from $8.80 to $12.21, which is near a 52-week high. Consider that the shares have not been at this level since over a decade.
With the emergence of the novel coronavirus pandemic earlier in the year, there were worries that Ericsson would suffer from delays with the 5G contracts. But for the most part, the company has been able to manage through this. It’s certainly a testament to the company’s core technologies as well as the strength of the global market.
So now what may we see for next year? Can Ericsson maintain its momentum? Or could it be tougher to generate positive returns?
Well, I think the company is one of the better positioned to benefit from the 5G trend. And let’s take a look at three reasons why.
Product and Intellectual Property
Ericsson’s initiative for 5G got its start back in 2011. This began an aggressive investment in R&D to build top-notch infrastructure technologies. And the efforts allowed the company to get early traction. For example, in 2015 it won its first 5G award.
Along the way, Ericsson was an innovator, such as by developing the first federated end-to-end network slicing platform. There were also major collaborations with companies like Qualcomm (NASDAQ:QCOM).
Another key was the focus on software development, which is a high-margin business. This was essential for customization and next-generation technologies like artificial intelligence.
One of the nagging issues with Ericsson stock is that the company still has a large amount of legacy products. And unfortunately, customers have been terminating contracts.
But this has been more than made up with the growth in the 5G business. In the latest quarter, the networks division reported 6% year-over-year increase on the top line and a 22.7% jump in operating margins. However, in the next few years, the growth is likely to accelerate. So far, the company won 116 commercial 5G deals.
One of the near-term catalysts is the rollout of Apple’s (NASDAQ:AAPL) 5G iPhone. This will not only give considerable traction but raise the awareness of 5G technologies.
But there are opportunities in the enterprise market as well. To this end, the company built a 5G-connected factory floor that provides automation using video and radio sensors to greatly improve the manufacturing.
Ericsson also recently acquired Cradlepoint, which is a top developer of WANs (wide area networks). The technology helps provide flexible and secure connections with facilities, vehicles and IoT (internet-of-things) devices. According to Ericsson’s own analysis, the WAN market is expected to grow 25% to 30% per year.
On the earnings call, Ericsson CEO Borje Ekholm noted: “We think with 5G, wireless WAN can gain a much more significant penetration and be used also as the primary connection point. So we see that as a very good long-term growth opportunity, a very exciting opportunity that’s going to help our customers generate more revenues, and we have a stand-alone business opportunity that’s attractive.”
Valuation on Ericsson Stock
The company is in solid financial shape. In the latest quarter, the free cash flow came to $481.8 million, up from $442.3 million in the same period a year ago.
As for the valuation on Ericsson stock, it is at a reasonable level. Note that the shares trade at roughly 16 times forward earnings.
Now there has been buzz of a potential takeover. Although, a deal would probably not be easy. The market cap is at a hefty $40.5 billion and there would also be regulatory pushback.
But given the low valuation of Ericsson stock and the attractive growth profile, there is likely to be more room for upside in the coming years.
On the date of publication, Tom Taulli did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.
Tom Taulli (@ttaulli) is the author of various books on investing and technology, including Artificial Intelligence Basics, High-Profit IPO Strategies and All About Short Selling. He is also the author of courses on topics like the Python language and COBOL.