Telefonaktiebolaget LM Ericsson (ERIC) and Arista Networks, Inc. (ANET) are two of the established players in the networking industry. Headquartered in Stockholm, Sweden, ERIC provides infrastructure, services, and software to the telecommunication industry, among other sectors. ERIC operates through four segments: Networks, Digital Services, Managed Services, and Emerging Business and Other. ANET develops, markets, and sells cloud networking solutions that include its extensible operating system (EOS) and routing platforms, among others.

The ongoing transition from 4G networking to 5G and other technological advancements have been brightening the networking industry’s prospects. The industry has been benefiting already from increased dependence on cloud computing. With several industries looking to integrate their supply chains and other domains into one platform for better coordination, the networking industry is expected to grow significantly in the coming months. According to Global Market Insights, the data center networking industry is expected to grow at an approximate 15% CAGR between 2021 – 2027. So, both ANET and ERIC should benefit.

But while ANET has gained 52.2% over the past year, ERIC has returned 49.7%. In terms of past six months’ performance, ANET is a clear winner with 25.1% returns versus ERIC’s 7.6%. But which of these two stocks is a better pick now? Let’s find out.

Latest Movements

On May 18, ANET launched SwitchApp for Arista 7130. It’s a new, ultra-low latency switch that cuts latency to less than one third of the company’s existing solutions. SwitchApp is based on the latest programmable FPGA technology and is fully integrated with ANET’s EOS. The company is expected to grow significantly in the near-term leveraging its latest innovations.

ERIC and Samsung recently reached a multi-year agreement on global patent licenses,  including patents relating to all cellular technologies. The cross-license agreement covers sales of network infrastructure and handsets from January 1, 2021. ERIC is expected to expand its consumer base by relying on this strong partnership.

Recent Financial Results

ANET’s total revenue increased 27.6% year-over-year to $667.56 million for the first quarter, ended March 31, 2021. Its non-GAAP net income came in at $198.84 million, which represents a 23% year-over-year rise. The company’s non-GAAP EPS came in at $2.50, up 23.8% year-over-year.

For the first quarter, ended March 31, ERIC’s total sales from its Northeast Asia segment came in at SEK 6.50 billion ($783.86 million), up 66% year-over-year. Its gross margin for the quarter came in at 42.8% compared to 39.8% in the prior-year period. The company’s net income increased 39% year-over-year to SEK 3.20 billion ($385.90 million). Its EPS increased 48% year-over-year to SEK 0.96 ($0.12).

Past and Expected Financial Performance

ANET’s revenue and EBITDA have increased at CAGRs of 11.4% and 12.7%, respectively, over the past three years. Analysts expect the company’s revenue to increase 29.7% for the current quarter, ending June 30, and 19.1% in its fiscal year 2021. Its EPS is expected to grow 20.4% in the current quarter and 13.5% in 2021. Also, its EPS is expected to grow at a 9.7% rate per annum over the next five years.

In comparison, ERIC’s revenue and EBITDA increased at CAGRs of 5% and 219.3%, respectively, over the past three years. Its revenue is expected to increase 19.7% for the current quarter, ending June 30, and 11.2% in 2021. The company’s EPS is expected to grow 40% in the current quarter and 19% in 2021. ERIC’s EPS is expected to increase at a 16.2% rate per annum over the next five years.

Profitability

ERIC’s trailing-12-month revenue of $26.61 billion is 10.8 times ANET’s $2.46 billion. Furthermore, ERIC is more profitable, with a 15.07% return on total capital versus ANET’s 14.56%.

Also, ERIC’s 22.14% ROE compares favorably with ANET’s 21.48%.

Valuation

In terms of forward EV/S, ANET is currently trading at 8.27x, which is 82.1% higher than ERIC’s 1.48x. In terms of forward EV/EBITDA also, ANET’s 21.36x is 55.2% higher than ERIC’s 9.57x.

So, ERIC is the more affordable stock.

POWR Ratings

ERIC has an overall B rating,  which equates to a Buy in our proprietary POWR Ratings system. However, ANET has an overall C rating, which represents Neutral. The POWR Ratings are calculated by considering 118 different factors, with the weighting of each optimized to improve overall performance.

Both ERIC and ANET have a C grade for Growth, consistent with analysts’ expectations that their revenue and EPS will grow in the coming quarters, but at a moderate rate.

ANET has a C grade for Value, which is consistent with its 8.27x forward EV/Sales, which is 100.2% higher than the 4.13x industry average. However, ERIC has an A grade for Value because its 1.48x forward EV/Sales is 64.2% lower than the 4.13x industry average. Also, ERIC has a B grade for Stability while ANET has a C grade for Stability.

Of 54 stocks in the B-rated Technology-Communication/Networking industry, ANET is ranked #26, while ERIC is ranked #5.

In addition to the POWR Ratings grades we’ve just highlighted, both ERIC and ANET are graded for Momentum, Sentiment and Quality. Click here to see the additional ratings for ERIC. Also, get all ANET’s ratings here.

The Winner

The networking industry is expected to continue growing in the coming months on rising demand for its advanced technology-enabled products and services. This should benefit both ETIC and ANET. However, ERIC appears to be a better investment here based on its lower valuation and superior financials.

Our research shows that the odds of success increase if one bets on stocks with an Overall POWR Rating of Buy or Strong Buy. Click here to learn about other top-rated stocks in the Technology-Communication/Networking industry.

ERIC shares were trading at $13.31 per share on Thursday afternoon, up $0.12 (+0.91%). Year-to-date, ERIC has gained 12.03%, versus a 12.62% rise in the benchmark S&P 500 index during the same period.

About the Author: Ananyo Guha Niyogi

Ananyo’s ardent interest in capital markets, wealth management, and financial regulatory issues, led him to a career as an investment analyst. His goal is to educate individual investors by making complex financial issues easy to understand. More...

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