Arista Networks has rallied 95% this year on the back of AI success. The company has a solid profitability record and exciting growth prospects. However, that growth is tied to AI and the resulting high valuation has made the stock a tricky investment despite its strong finances.
Arista Networks specializes in software-driven cloud networking solutions for data centers and cloud environments. It offers unique architecture, Extensible Operating System, enhanced automation, scalability, and security in networking operations while allowing seamless integration with third-party software.
The main company’s product includes the Arista 7800R Series, one of the highest-performing modular switches in the industry, delivering up to 460 Tbps of system throughput and supporting a forwarding rate of up to 96 billion packets per second. On the other hand, the 7060X6 AI Leaf Switch Family is ideal for large AI clusters because it supports up to 64 800G Ethernet ports or 128 400G Ethernet ports.
The company generates revenue through sales of networking hardware, software licenses, and support services. Almost 80% of this revenue comes from the Americas, while roughly 12% of it comes from Europe, the Middle East, and Africa.
The primary end markets for the company are large enterprises with extensive data centers and cloud services providers. Arista also has a presence in sectors in need of high-performance networking solutions. Among the company’s top clients are Meta Platforms, Microsoft, Bank of America, Comcast, Netflix, Oracle Corporation, Accenture, and Foxconn.
The semiconductor and data center industry has seen some consolidation in the last few months. Semi-stocks, including Nvidia, have seen sideways price movements during this period. Arista has experienced something similar. The market seems to be reconsidering valuations it has assigned to many AI-related companies, and Arista seems to be one of them. This is why we need to value it carefully.
Let us consider what is already priced into the stock’s valuation. The company’s Arista 7800 modular switches are an integral part of META’s AI applications. Broadcom has also partnered with the company, supplying it with networking chips that are a crucial part of Arista’s switching and routing products. Apart from these partnerships, other tech companies have also announced to increase their AI spending, which helps a typical ‘pick and shovel’ play like Arista.
The company has also improved its market share from 30.9% to 43% in the first half of the year. With cloud networking TAM poised to grow at a CAGR of over 14% in the next 3 years, this ability to snatch market share positions the company well to catch a good portion of the future industry growth. The rich balance sheet, with a net cash position of $72 billion with minimal debts paints a great picture as well.
Having said all that, what makes us edgy about the stock is its valuation. Arista sounds like a typical company that has had great things happen to it in the last year. Whether those things can continue to happen in the next year is a big question mark. It can’t find companies bigger than Broadcom and META for partnerships. Its reliance on big tech spending is also a downside. We think this company is no Microsoft or Nvidia and therefore investing at a high valuation isn’t worth the risk. With both Price per Sales (20) and Price to Earnings (54) ratios at multi-year highs, we believe the upside, even with all the good things about the company considered, is minimal.
Arista Networks is not on our latest list of the 31 Most Popular Stocks Among Hedge Funds. As per our database, 70 hedge fund portfolios held ANET at the end of the third quarter which was 65 in the previous quarter. While we acknowledge the potential of ANET as a leading AI investment, our conviction lies in the belief that some AI stocks hold greater promise for delivering higher returns, and doing so within a shorter timeframe. If you are looking for an AI stock that is as promising as ANET but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.
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Disclosure: None. This article was originally published at Insider Monkey.