Microsoft’s stock (NASDAQ:MSFT) is up by over 100% since the beginning of 2018, driven by the company’s fast-growing cloud business. However, the stock price of Arista Networks (NYSE:ANET), a network equipment supplier for cloud data centers that counts Microsoft as its largest customer, has seen its stock decline by about 10% in the same period. This comes despite the fact that Arista’s revenue growth for the 2017-2019 period stood at 46%, compared to just 30% for Microsoft. Arista’s reported Net Margins have also been slightly higher than Microsoft’s over the last 2 years. Does that make sense? We don’t think it does, and believe Arista is likely a good investment at the moment compared to Microsoft. Our dashboard Arista Networks vs. Microsoft: Does The Stock Price Movement Make Sense? has the underlying numbers.
How Do The Core Businesses For Arista And Microsoft Compare?
Let’s look at the core business prospects of both companies a bit more closely. Arista Networks is a company that sells networking hardware such as routers and switches focused on data centers. The company also caters to the high-performance computing and high-frequency trading space. The company has seen some recent headwinds, as some large customers scaled back on orders, causing its quarterly sales to decline over the last two quarters, putting pressure on its stock.
Microsoft, on the other hand, is a software behemoth that has successfully transitioned to the cloud computing space. The biggest driver of Microsoft’s growth and soaring valuation has been its Azure cloud infrastructure service, which posted revenue growth of 59% year-over-year over the last quarter. As demand for Azure and Microsoft’s cloud-based services increases, it could drive up demand for Arista’s products, as Microsoft was Arista’s largest customer last year, accounting for about 23% of revenues in 2019. This could make Arista a good play on Microsoft’s growing cloud business.
Sure, Arista likely has less pricing power given the competition in the network market and Microsoft could reduce its exposure to Arista hardware. However, Arista’s valuation remains attractive, as the company trades at about 19x based on its current market price and FY’19 EPS, compared to 36x for Microsoft and this should provide reasonable comfort to investors. Moreover, the longer-term prospects for Arista remain strong. The digitization of the economy is likely to accelerate with the coronavirus pandemic. This could, in turn, drive demand for cloud computing power, helping networking players such as Arista, as its customers scale up capacity. Over the next few quarters, the company will roll out its 400G network technology, which should quadruple data capacity and this could also drive upgrades from older equipment. Arista’s financial position is also stable, as the company has no debt while holding $2.6 billion in cash and cash equivalents and remains debt-free, meaning that it faces no meaningful risk through the pandemic.
Is nVidia a better way to play the Internet infrastructure boom compared to Arista Networks? View our Theme of U.S. listed Internet Infrastructure stocks for more details on the financial performance and returns the stocks offer.
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