Why Acacia Communications Stock Crashed Today

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What happened

Shares of Acacia Communications (NASDAQ: ACIA) plummeted on Monday after the U.S. Department of Commerce banned the sale of components to ZTE Corp., a Chinese telecommunications equipment company. This follows ZTE's guilty plea last year for conspiring to violate U.S. sanctions. Acacia stock was down about 36% at 12:45 p.m. EDT.

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So what

American companies are now banned for seven years from selling components to ZTE. This action stems from ZTE's failure to comply with the terms of its guilty plea last year; ZTE pleaded guilty to conspiring to violate U.S. sanctions by illegally shipping U.S. goods to Iran. The company paid a total of $890 million in fines and penalties, and it promised to fire and discipline certain employees. But ZTE failed to discipline 35 employees, prompting the seven-year ban.

Acacia generated 30% of its revenue from ZTE in 2017, with 70% of its revenue coming from its five largest customers. The company's risky strategy of depending on a small number of customers has led to disaster.

Now what

Acacia was already having issues with demand from China prior to this ban. Revenue tumbled 19.5% in 2017, with a 39.2% decline during the fourth quarter. CFO John Gavin said in the fourth-quarter earnings release that the company sees signs of improving market conditions in 2018. The ZTE ban ensures those revenue declines will continue.

The steep drop in Acacia's stock is a painful reminder that revenue concentration risk should not be ignored.

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Timothy Green has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.