Exfo Inc (EXFO) is one of the top-two supplier in portable telecom testing. It provides intelligent test platform strategy and is focused o...

Weekly Superstock Scan 11 Apr 2016 - 15 Apr 2016: EXFO

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Exfo Inc (EXFO) is one of the top-two supplier in portable telecom testing. It provides intelligent test platform strategy and is focused on process efficiency and test automation. It also offers clients fully integrated active and passive service assurance and real-time analytics for end-to-end visibility. If you still do not understand what EXFO is doing after reading this elevator pitch extracted from EXFO's website, you are not alone. My guess is that they are offering web and mobile network operators solutions to test their network, and that is all I need to know for now.


Technical




Price Breakout with Strong Volume

Two weeks ago, EXFO broke out from a four month narrow base with a weekly volume three times its average weekly volume. In a single week, EXFO surged more than 20 per cent from 3.15 to close at 3.84. This is due to a strong FQ2 results where it reported an EPS of 0.07 (including one-time gains), beating estimates by 0.03. Its revenue grew 5.1% y-o-y though it missed estimates by 1.02 million.

Overhead Resistance


The $4 level has served as support and resistance since 2013. With the price trading so near $4 now, the upside may be rather limited. However, when price break above the $4 mark, the resistance could turn into a support level.

Fundamental


New Innovations including EXFO Xtract and TestFlow

EXFO launches many new products every quarter. In FQ2 it launches five new solutions and in FQ1 it launches two new products. While I do not know what most of the products or solutions does, Xtract and TestFlow appears to be two important innovations.

Market acceptance for EXFO Xtract solution has been positively strong. In FQ2 it was a main contributor to the increase in gross margin. TestFlow, launched only in FQ2, is a revolutionary cloud-based field automation solution that really allows communication service providers to automate complex and labor-intensive testing task and is creating a positive market reaction.

Improving Backlog

Bookings improved 9.2% to $59.7 million in the second quarter of 2016 from $54.7 million in the same period last year and up 2.1% from $58.5 million in the first quarter of 2016. On the constant currency basis, bookings would have increased 12% year-over-year.

High Operating Leverage

The cost of sales is about one third of EXFO's revenue. As EXFO's revenue increase, its gross margin and net income are likely to increase quickly. Based on its current margin, EXFO will need around 50 million of revenue to breakeven. As its revenue increase above this level, which it will in the coming quarters, earning will increase exponentially.

Easy Earnings Comparison

In the last financial year FQ3, EXFO reported revenue of 57.8 million and EPS of $0.02. For the upcoming FQ3, EXFO is forecasting sales to range between $59 million to $64 million and net income to range between $0.03 to $0.07 per diluted share. If the estimates are accurate, we will be seeing headlines reporting 2-11% increase in revenue and 50%-250% increase in EPS y-o-y.

Risk Factors/ Things I do not Like


  • Large Float/Volume Ratio - EXFO has a float of close to 18 million shares and an average daily volume of just 18,000 shares. The float is thus 1000 times its daily volume. With this big ratio, it is difficult for the stocks to move up significantly without drastic increase in volume. However, the dollar value of the float is less than 80 million dollars. Large institutions will be able to move this stock easily.
  • Overhead Resistance - As mentioned earlier, the $4 level is likely to serve as a strong resistance. I will describe how to mitigate this in the next section.


Potential trade setup


With the 10wMA so far away from the current price, we are risking a good 70-80 cents if we chose to enter at the current price. Recalling that potential resistance is just 10 cents away, the risk/reward ratio is definitely not worth the trade.

The ideal situation is for price to pullback with low volume to the 10wMA, and we will calculate at that point of time if the risk/reward ratio is good enough for a trade. If we do, we will continue to look out for the $4 price level as an area to take some profit or at least move our trade to breakeven.

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Previous Superstocks

BORN (Posted on 3rd Apr 2016 Watchlist)
Missed my entry by 1 cent and took off.

ELMD (Posted on 3rd Apr 2016 Watchlist)
Broke away from 10wMA

PLPM (Posted on 27th Mar 2016 Watchlist)
Price fell with increased volume, I will hold my purchase till it hit the 10wMA

SNC (Posted on 6th Mar 2016 Watchlist)
Consolidating, waiting for 10/30wMA to catch up.

JRJC (Posted on 14th Feb 2016 Watchlist)
Looking to buy at upward trendline and 10wMA in the 4.90 region. Very close to entry. Missed entry by 3 cents last week

EDUC (Posted on 24th Jan 2016 Watchlist)
Entered @ 9.95.

VRA (Posted on 11th Jan 2016 Watchlist)
Entered @ 14.4. Fell sharply last week. Exited at 17.25.



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All information in The Trader Diaries (TTD) does not constitute to investment advice or recommendation to buy, sell or hold. Readers are advised to consult their financial advisors prior to making any investment or pursuing any investment strategy. TTD will not be liable for any losses resulted from information published or shared from the blog.