Acacia Communications, Inc. (ACIA): Boom or Bust? What Investors Should Know

While not well-known, Acacia is actually this year’s hottest IPO

Acacia Communications, Inc. (NASDAQ:ACIA), a builder of optical networking systems, is certainly not a household name. Even in Silicon Valley, the company doesn’t get much attention. Yet Wall Street has taken notice, posting a sizzling return of 316% since going public in May.

Acacia Communications, Inc. (ACIA): Boom or Bust? What Investors Should KnowGrowth has been torrid, as seen with last week’s stellar earnings report, sending ACIA stock up 41%! So, just what is Acacia Communications and why the interest from investors? Well, let’s take a look:

Back in 2009, Mehrdad Givehchi, Benny Mikkelsen and Christian Rasmussen launched Acacia Communications. The mission was to build optical networking equipment that would not only boost speed and time-to-market, but also greatly reduce overall costs.

The founders of the company certainly had the right backgrounds, with extensive technical chops, such as Ph.D.’s in electrical engineering and successful track records in developing commercial products.

Another key to success for ACIA is its reliance on low-power silicon chips and standard interfaces. The result is that the company has created a family of optical systems with transmission speeds of 100 to 400 gigabits per second. Oh, and in the works is a next-gen module that can deliver at speeds of one terabit per second or more.

Market Opportunity: It is enormous. A report from Cisco Systems, Inc. (NASDAQ:CSCO) forecasts internet traffic tripling from 2014 to 2019, driven by video, mobile, cloud services and the Internet-of-Things. This should result in continued strong demand for high-performance optical networking equipment. For example, the spending on metro technologies (with connections of less than 1,500 km) is expected to go from $6.4 billion to $11.8 billion (from 2014 to 2019). Although, the market for inter-data center applications is likely to be the hottest, with spending projected to soar from $400 million to $4 billion, representing a compound annual growth rate of 58.4%.

Super Growth: In the latest quarter, ACIA posted revenues of $116.2 million, up over 101% year-over-year. There was also an adjusted profit of 77 cents per share. According to CEO Raj Shanmugaraj: “We continue to see strong global demand for our products, driven by metro and inter-data center network infrastructure buildouts.” For the most part, the bulk of the demand has come from the company’s 100 gigabit per second offerings.

Risk Factors: ACIA stock is definitely not a sure thing. The optical space has a history of boom-and-bust cycles. There is also the threat of foreign operators, say in China, that may take an aggressively low-cost strategy. But perhaps the most worrisome risk factor for ACIA stock is the customer concentration. Consider that ZTE Kangxun Telecom accounts for 31% of revenues. Something else: The U.S. Commerce Department has threatened to ban sales from the U.S. because of national security concerns. Although, at least for now, it looks like ZTE has taken actions to help alleviate the concerns.

Valuation: ACIA stock is far from cheap, trading hands at a hefty 35 times forward earnings. By comparison, other optical players like Oclaro, Inc. (NASDAQ:OCLR), Finisar Corporation (NASDAQ:FNSR), Lumentum Holdings Inc (NASDAQ:LITE) and Inphi Corporation (NYSE:IPHI) trade at forward multiples ranging from 13 to 24 times earnings.

It’s also important to note that ACIA stock only issued 4.5 million shares to the public, which means it does not take much firepower to move the stock price.

Yet this will end in early November, when the company’s lock-up expires. This means that ACIA stock insiders will be able to start selling their shares. And in light of the high valuation, there may be some heavy unloading.

Tom Taulli runs the InvestorPlace blog IPO Playbook. He is also the author of High-Profit IPO StrategiesAll About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.

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