With its first-quarter earnings report last week, Digital Lightwave Inc. (Nasdaq: DIGL) joined a select list of companies that are posting strong results against the slowdown in capital spending within the optical networking industry.

The results have been reflected in Digital Lightwave’s stock, which continues to outperform the Light Reading Index at large. Over the course of the last two weeks, Digital Lightwave’s stock has advanced 82 percent, while the Index is up only 6 percent (see chart).

So what’s up? Digital Lightwave’s caught a wave of booming growth: products that help automate the maintenance of fiber optic networks, diagnosing and, in some cases, fixing problems in line cards and switches. This can often eliminate the need for a visit from repair technicians, translating into reduced costs and improved network performance for carriers.

The company’s product line has expanded along with the recent advances in DWDM (dense wavelength-division multiplexing) systems. A recent order from Level 3 Communications Inc. (Nasdaq: LVLT), for instance, included a system that can provide remote monitoring and analysis for multichannel OC192 (10 Gbit/s) DWDM systems.

Carriers are beginning to deploy DWDM-enabled transport systems with multichannel configurations into their metropolitan networks. Digital Lightwave is moving into this market. New customer wins in the first quarter included, among others, ONI Systems Inc. (Nasdaq: ONIS), Ciena Corp. (Nasdaq: CIEN), and Qwest Communications International Corp. (NYSE: Q).

Both ONI and Ciena have been making inroads with metro carriers, and Qwest is one of the carriers that has spent aggressively on deploying next-gen optical equipment for metro applications. The ability to make inroads with stronger carriers bodes well for Digital Lightwave’s prospects and also contributes to management’s high level of visibility into near-term revenues.

The increase in unit shipments and average selling prices also gives a good indication of how Digital Lightwave is faring with respect to price competition. Fueling a 99 percent increase in 2000 revenues, unit shipments rose 26 percent, while the average selling price increased to $65,900 from $41,400 in 1999. Management also appears to have handled the company’s growth strategy well. Digital Lightwave has negligible debt and accelerating cash flow: Operating cash flow in 2000 was $20 million, up from an outflow of $1.6 million in 1999.

Throw in a near 70 percent gross margin and a 31 percent net margin for 2000, and it becomes easy to see why investors have become enamored with Digital Lightwave. Over the past month or so, the company’s share price has roughly tripled from a 52-week low of $12.75.

— Christopher P. Bulkey, special to Light Reading http://www.lightreading.com