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After the Storm, Aruba Networks Rebuilds

Richard Saintvilus

NEW YORK ( TheStreet) -- Back in June, shortly after Aruba Networks was putting the pieces back together while recovering from "Hurricane Cisco" , I argued there was considerable value left in the stock. Too much was being made of a near-term hiccup. It wasn't a popular opinion. But it was a point that needed to be driven home.

I won't deny the legitimacy regarding concerns about Aruba's long-term health in the wireless local-area-network (WLAN) market. That Cisco owns more than 50% share of that industry is a big deal. But what transpired three months ago with Aruba losing as much as 44% of its value can only be described as pure panic selling and a gross overreaction. In the article in June I said the following:

"While I won't begrudge investors for having bailed on the stock, whether to lock gains or to cut their losses, this may prove later to have been an erratic move. For new investors, though, that are looking to 'test Aruba's waters,' the question to ask is, how much of Aruba's struggles has more to do with poor sales execution versus the idea Aruba might be losing both market share and its 'best of class' status."

I don't believe I received any support on this. Aruba's management, meanwhile, which then guided for fourth-quarter earnings to come in below expectations, certainly didn't help its case. Nor did it help my argument. But the downbeat guidance wasn't a surprise. It certainly wouldn't have made sense to set the company up to fail after a disastrous quarter. Since then, however, cooler heads have prevailed.

While shares of Aruba are still 40% below their 52-week high, the stock is up almost 35% since three months ago. Management only guided for 7% growth, which (among other reasons) caused the panic, since this would have represented 15% growth deceleration. But that was not to be. Instead, fourth-quarter revenue came in 10% higher year over year, which was enough to beat Street estimates.

What's more, not only did product revenue inch higher by 7% year over year, the company also beat gross margin expectations, which also led to a beat in operating income. Although every analysts was using the "Hurricane Cisco" headline back in May, I found no evidence this quarter that Aruba was under similar pricing pressure. In fact, it was Cisco, not Aruba, that suffered this quarter due to softer-than-expected margins.

For Aruba, which is working to build credibility, margins are always going to be an issue. Fairly or unfairly, Cisco's presence and its far-reaching capabilities is always going to be tied with Aruba's long-term prospects. Even so, I don't think we should assume that customers are going to willingly bypass Aruba's best-of-breed WiFi business, in favor of discounted alternatives.

Right now, given the tough IT spending environment, customers may look to save. But this level of underinvestment won't last indefinitely, not if enterprises truly care about competing.

The good news is it looks as if Aruba's management is finally beginning to address Aruba's competitive leverage in a more aggressive manner, including building on the company's advantages in price and performance.

I'm also encouraged by Aruba's new investments in sales and marketing. I believe these new initiatives should help consumers better differentiate the performance improvements of Aruba's products versus those made by Cisco and, to a lesser extent, Juniper .

Not surprisingly, the stock is now beginning to respond. Knowing how quickly sentiment can turn around in this market, especially in the tech sector, I don't believe that a target of $20 is that outrageous in the next six to 12 months.

Again, this is not a scenario where I'm giving the "all is clear" signal. As with any company, you should first do your homework before buying. But I've studied this sector long enough and have seen these sorts of reactions to realize that it won't be too long before Aruba once again becomes a vacation destination for investors.

At the time of publication, the author held no position in any of the stocks mentioned.

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

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