Securing Computing’s stock price (SCUR) was beaten up last week because of the weak earnings reported. The company sells products and services that secure corporate networks. It is not the biggest player in the field. Symantec and Cisco are much larger rivals. SCUR is a much smaller niche player in the corporate firewall market. To survive, SCUR has to become bigger. It does so by gobbling up two companies within the past year: it bought its direct competitor Cyberguard for $295 million in 2005; This year it bought Ciphertrust for another $270 million. These two deals depleted Secure Computing’s cash, diluted its shares by 50% and incurred about $100 million long term liabilities. The Wall Street apparently didn’t take these acquisitions lightly, punishing SCUR’s stock from a 52-week high of $15 down to $6.
A lot of shareholders’ value got destroyed by the acquisitions. But to those who don’t yet own SCUR’s stock, it may actually present a bargain hunting opportunity, if and ONLY IF the acquisitions turn out to boost SCUR’s bottom line as the management had hoped to. Will they? Let’s tally the numbers:
|SCUR market cap $360 million (11/10/2006)|
|- Products ($M)||28.1||24.5||29.2||19.4||18.8||18.8|
|- Services ($M)||15.7||14.2||13.4||7.9||7.4||6.7|
|Operating Expense ($M)|
|- Selling & Marketing||23.7||17.8||15.8||10.8||10.8||10.1|
|- R & D||8.8||7.8||6.9||4.3||4.0||4.3|
|- G & A||3.5||2.9||3.0||1.5||1.9||1.9|
|Net Income ($M)||-7.3||6.7*||0.7||5.8||4.9||4.1|
|Owner’s Earning ($M)||-4.7||3.5||2.9||6.5||5.7||N/A|
|# Of Diluted Shares (M)||57.4||61.0||51.7||38.2||37.2||36.7|
(*): including a $8 million tax benefit.
The year-over-year comparison of Q1 and Q2 2006 vs. Q1 and Q2 2005 is mainly due to the Cyberguard acquisition. On a quarterly basis, the acquisition contributed roughly $15 million revenue, $9 million gross profit (yielding a 60% gross margin for Cyberguard part of business), and about $11 million operating expenses. The net addition to the bottom line is a negative $2 million per quarter. While the pickup in revenue looks pretty nice, the operation expense still has a lot of meat to cut across the board. To make the acquired business in line with the existing business, $6 million has to be cut per quarter.
Part of the difference between Q3 2006 and Q2 2006 is attributed to the new Ciphertrust acquisition. According to the management, Ciphertrust has $1.2 million revenue from September and $4.8 million in expenses. It came out of the quarter with $11 million in billings. The booking looks promising but expense is again the core issue to deal with.
To digest two consecutive acquisitions is no doubt not an easy task, and will likely take at least a year to fully effect. Cyberguard and Secure Computing’s core business had more overlapping so its integration should be more straight-forward than that of Ciphertrust. To make sense to a value investor, the combined company should achieve a revenue of $60 million a quarter, a gross margin in the high 70% and an operational margin at low teens, yielding an earning of about $7.5 million a quarter or $30 million a year. An earning of $30 million year would justify a market capitalization of $500 million or so, a 30% premium over the current $360 million market cap. Given Ciphertrust’s momentum in bookings, an extra $15 million/quarter revenue does not sound far fetched. But the $5 million a quarter cut in operating expenses required to maintain a decent operating margin is the key to vindicate these acquisitions.