Nvidia is one of the most popular artificial intelligence (AI) stocks on the market. The company has played a pioneering role in the proliferation of AI technology by designing powerful graphics cards and server systems that have allowed companies to train and deploy AI models.
The robust demand for Nvidia's graphics cards has led to remarkable growth in the company's revenue and earnings in the past couple of years, leading to a big jump in its stock price as well.
However, the above chart also shows that Nvidia has lost momentum in recent months. More specifically, Nvidia stock is down 8% in the past three months as of this writing. This can be attributed to multiple factors. These include the proposed restrictions on sales of Nvidia's chips to foreign countries, the fear of a slowdown in AI spending, and the recent claim by DeepSeek that it has developed a low-cost AI model, bringing into question the billions that are being spent by tech giants on expensive hardware.
Now, there is a good chance that Nvidia may be able to overcome these challenges and start soaring once again. However, investors may be considering alternative options to capitalize on the growing adoption of AI in a bid to diversify their portfolios. This is where Ciena(NYSE: CIEN) comes into the picture.
The optical networking equipment provider has logged healthy gains of 15% in the past three months, outperforming Nvidia by a substantial margin. More importantly, the stock has room to run higher. Let's look at the reasons why.
AI-fueled networking demand will power Ciena's growth
The requirement for fast networking speeds has increased following the advent of AI so that huge amounts of data can be accessed and moved quickly in servers for processing purposes. Any slowdown in networking speeds could negatively impact the performance of AI models. Not surprisingly, sales of networking equipment to support generative AI applications are expected to increase at an annual rate of 34% through 2028.
Ciena has started benefiting from this lucrative opportunity, witnessing strong growth in orders for its optical networking equipment that enables high-speed data transmission. Cloud providers now account for four of the company's top 10 customers. Management's comments on the December 2024 earnings conference call indicate that cloud providers are likely to move the needle in a bigger way for the company thanks to AI. According to CEO Gary Smith: "With cloud and AI, now the lead drivers of demand, we believe bandwidth growth will rise above those historical levels over the coming years. And to be clear, AI is not just a data center phenomenon to monetize the massive AI super cycle of compute investments; traffic is already flowing out of the data center and impacting all parts of the network today."
The AI-powered networking demand explains why the orders booked by Ciena in the previous quarter were higher than its quarterly revenue. The company was originally expecting orders to remain below its quarterly revenue. However, the significant investments being made by cloud service providers to build AI infrastructure gave Ciena a boost.
Investors have already seen how fast the demand for AI-related networking equipment is set to grow over the next three years. This explains why Ciena is expecting its addressable market to increase by $12 billion through 2028 to $26 billion. What's more, the company has been ranked as the top vendor of optical networking equipment in North America by multiple third-party research companies, which means that it is in a solid position to make the most of the lucrative end-market opportunity.
Solid financial growth should pave the way for more stock upside
Ciena management is expecting the company's revenue to grow at an annual rate of 8% to 11% over the next three years, along with an adjusted operating margin of 15% to 16% in fiscal 2027. For comparison, Ciena's non-GAAP (adjusted) operating margin landed at 9.7% in fiscal 2024.
The robust growth in the company's revenue and margins should pave the way for terrific growth in the company's bottom line over the next three years. This is precisely what consensus estimates are suggesting.
The chart above makes it clear that Ciena's earnings are set to grow at a pretty healthy pace from fiscal 2024 levels of $1.82 per share (Ciena's fiscal year ends in November). If the company indeed delivers $4.17 per share in earnings after three years and trades at 34 times earnings at that time, in line with the tech-laden Nasdaq-100 index's earnings multiple, its stock price could jump to $142 in three years.
That represents a jump of 77% from current levels, suggesting that this tech stock is still worth buying even after the gains it has clocked in the past few months.
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Harsh Chauhan has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Nvidia. The Motley Fool has a disclosure policy.
