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Sycamore's Impressive Path To Profitability

In a year when hundreds of Internet companies have been punished severely for poor financial performance, fiber-optic systems equipment maker Sycamore Networks has been an investor's dream come true.

It is one of the hottest names in one of this year's only hot 'Net sectors, optical networking. Since going public last Oct. 22, SCMR shares have more than doubled in value over their split-adjusted first-day closing price of $61.59.

Then there's the impressive bottom line. As the fourth-quarter ea rnings report released after Thursday's trading showed, the Chelmsford-based company has moved solidly into the black in a surprisingly short amount of time.

Net income in Q4 was $18.3 million, or 7 cents per share, nearly double Q3's net profit of $9.4 million, or 4 cents per share. In last year's fourth quarter, Sycamore had a net loss of $9.1 million, or 6 cents per share.

Yet the market reacted to SCMR's stellar quarter by pushing shares down 4.6% on Friday, and another 4.8% in early trading Monday. SCMR was priced at $143.63 by early Monday afternoon.

What did investors see in the numbers that they didn't like? Perhaps an overvalued company.

With a market capitalization of $38.7 billion after last Thursday's trading, SCRM was valued at 195x trailing 12 months' revenue of $198 million. Even using Monday's lower market cap of $35.2 billion, Sycamore is valued at 178x TTM revenue.

But given Sycamore's rapid revenue growth, TTM revenue figures aren't necessarily reliable indicators of the company's value. Q4 sales reached $90.4 million, up more than 50% from Q3 revenue of $59.2 million and more than four times the $19.5 million in sales for the first quarter of the fiscal year.

Once that last amount is replaced early next year by a revenue figure that will exceed at least $110 million - and the company already has deferred revenue of about $30 million - SCMR's valuation immediately will become much more attractive. Given the insatiable demand from telcos, ISPs and cable operators - Sycamore's target customers - to offer more bandwidth, revenue growth likely will remain robust in coming quarters.

Most of the sell-off of the past two days is due instead to profit-taking, as investors cash in on Sycamore's rapid ascent since bottoming out in mid-April at $51 per share. Anyone buying in back then could have more than tripled their investment in about four months. While that kind of return was routine in the Internet sector last year, investors have been quicker to cash out this year while they can - one of the main reasons the market has been so volatile in recent months.

It's still pricey, but if shares continue to fall, investors seeking a winning bet in optical networking should take a good look at Sycamore. The company has all the markings and momentum of a long-term infrastructure powerhouse.