SDN Hype vs Reality; Cisco (CSCO) to Weather the Storm, M&A In Focus - UBS

April 1, 2013 12:09 PM EDT
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Analysts at UBS put out a research report on software defined networking (SDN) Monday, saying they expect it to be a significant long-term architectural shift in the $40B+ networking industry driven by: 1) greater network flexibility, 2) lower opex, & 3) new services. That said, large-scale deployments are at least 18-24 months out given IT inertia and lack of maturity or standardization in offerings, they said.

For networking stocks, the UBS analyst team led by Amitabh Passi said they will be driven more by spending priorities than this architectural change near-term.

While there is fear that the new technology will commoditize hardware, Passi said these fears appear overblown. "While SDN will shift some value to software, we still foresee hardware innovation, especially in network elements where performance, latency and resiliency matter," he said. "We expect incumbents to
retain a piece of the software value as well." As an example, he noted how server sales continued to increase despite rapid adoption of virtualization.

The analyst does see SDN as a key driver of IT sector M&A. "With greater emphasis on software, services, and converged offerings, we see room for accelerating cross-sector M&A, highlighted by deals (e.g. Oracle/Acme Packet; VMware/Nicira), which are harder to predict," he said. While most takeout candidates will likely be private companies, public companies like BroadSoft (NASDAQ: BSFT), Brocade (NASDAQ: BRCD), F5 (NASDAQ: FFIV), Juniper (NASDAQ: JNPR), and Riverbed (NASDAQ: RVBD) may see interest as well.

On incumbent Cisco (NASDAQ: CSCO), the firm notes that much of the spotlight has been on threats to the company. The analyst said while SDN has the potential to prove disruptive across the networking stack, "with AN $180B installed base, $30B cash, and $10-12B FCF/year we think Cisco (Buy) has the firepower to navigate this transition a increasing interest as well." In fact the firm raised its price target on Cisco today from $23.50 to $25.

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