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Novatel Wireless Inc. improved in the second quarter of 2012 beating the Zacks Consensus Estimates. However, in the aftermarket trade on NASDAQ, the stock price of Novatel wireless dropped 21 cents (8.33%) to $2.31 per share. We believe year-over-year decline in revenue and net income are the primary reasons for share price decline.

On a GAAP basis, net loss in the reported quarter was $4.5 million or 14 cents per share, deteriorating from the year-ago net loss of $3.9 million or 12 cents per share. However, adjusted loss per share of13 cents in the second quarter of 2012 was much better than the Zacks Consensus Estimate of a loss of 19 cents per share.

Quarterly total revenue in the reported quarter stood at $102.4 million, contracted 13.2% year over year but was above the Zacks Consensus Estimate of $99 million. The year-over-year decline in revenue was mainly attributable to subdued performance in the Mobile Broadband Device segment. Segment wise Mobile Computing products generated revenue of $92.5 million down 12.6% year over year. Additionally, M2M products and solutions revenue was $9.9 million down 18.85% year over year.

Revenue by Product Category

Revenue from Mobile Broadband Devices (Mobile Computing Products) was $87.1 million, down 14.0% year over year. Embedded Solutions (M2M Products and Solutions) revenue was $9.1 million, down 22.9% year over year. However, Asset Management Solution and Services revenue was $6.2 million up 26.53% year over year.

Operational Highlights

Gross margin was 22.7% in the quarter compared with 22.2% in the year-ago quarter. Operating expenses (excluding amortization and goodwill impairment charges) in the reported quarter were $27.4 million compared with $28.8 million in the prior-year quarter.

During the reported quarter, Novatel consumed $5.2 million for operations compared with $19.0 million in the year-ago quarter. Free cash flow was a negative $2.8 million compared with $16.5 million in the previous quarter. At the end of the second quarter of 2012, Novatel had approximately $51.6 million in cash & marketable securities on its balance sheet compared with $75.4 million at the end of fiscal 2011. The balance sheet of Novatel remains debt free.

Financial outlook

Management provided revenue guidance for the third quarter of 2012 in the range of $76–$84 million. According to them, MiFi revenues in the third quarter may reduce due to competitive pressure at its largest customer Verizon. Non-GAAP gross margin is expected to be between 22% and 24%. Non-GAAP EPS is anticipated in the band of a loss of 33 cents per share to 21 cents per share.

Recommendation

We believe that the continuous launch of innovative products like 4G LTE-capable MiFi Intelligent Mobile Hotspot technology with large carriers like Verizon Communication Inc. (VZ - Analyst Report) will create future growth prospect for the company. Moreover, Novatel’s diversification into machine-to-machine (M2M) intelligent asset management solutions and newly developed insurance telematics and fleet management products will further boost its top-line growth going forward.

However, the company is facing increased competition from low cost Asian manufacturers like ZTE Corp and Huawei Technologies, who have already launched their own version of intelligent mobile hot spots. Accordingly, we maintain our long-term Neutral recommendation on Novatel. Currently, Novatel has a Zacks #3 Rank, implying a short-term Hold rating on the stock.

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