Uncertainty Casts Shadow Over Brocade Communications
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Brocade Communications (NASDAQ: BRCD) is one of those few companies that has had a good quarter beating estimates in both earnings and revenue. For this reason my first question would be: “Does this mean it is a good candidate for investing in?” Let’s take a look at the events surrounding this company right now and I will let you know what I think as we see a lot of uncertainty developing.
Goldman Sachs has maintained its Neutral rating of Brocade but raised the price target from 5.25 to 5.75. Cantor Fitzgerald L.P upgraded the stock from hold to buy with a price target of 6.00. And we have Pacific Crest’s Brent Bracelin changing their outlooks on Brocade to sector perform from underperform with a price of 7.00. Why do we have this slew of analysts suddenly taking an interest in BRCD? There are a number of reasons companies give.
One reason for this brighter outlook is the resignation of the CEO Klayko. There is nothing concrete here but his departure could do one of two things. It could open up the opportunity for a deal to go through for the sale of the company or it could create more uncertainty. One thing that has been circulating through the rumor mill is that Brocade Communications has been trying to sell itself. Well, not really a rumor. It has been trying to find a buyer with the help of Frank Quattrone for two years The planned resignation may have been driven by the board’s desire to streamline a sale of the company. It is an attractive target for companies because it is dominant in its market and has a respectable cash flow so sales and/or takeover talks have been talked about before.
Oracle (NASDAQ: ORCL) has been in the discussion since early in 2012 and so has IBM (NYSE: IBM). Both of these companies are good candidates because both have the missing network plugs. But just how attractive is the buy? Considering that half of its sales comes from alliances with IBM, Hewlett-Packard (NYSE: HPQ), and Oracle, what would happen if one of the two aforementioned bought the company? There is a good possibility that the alliances with the other two would cease to exist and suddenly what looked attractive no longer does.
But the immediate future could create some real uncertainty. Mr. Klayko was also heading up the sales division since the resignation of Ian Whiting in early June. First of all, two big questions remain as to who is going to fill these roles and secondly, I don’t believe a whole hearted effort will be put forth at this point questioning how the company will perform in the immediate future.
Brocade had a very good quarter. The company reported adjusted EPS of 14 cents, topping analysts' estimates for 12 cents per share. Revenue was $555.3 million, topping estimates for $536.6 million. So it was a rarity this quarter where most companies beat earnings but fell short on revenue.
But there are a lot of questions that remain for the company.
Can the company keep the federal contracts going as well as they have?
- Will ‘Ethernet” products slow down in the 4Q as they have been forecasted to do?
- A (3% to 4%) growth rate does not look very attractive for a big deal to reveal itself.
- The spending environment is hesitant to begin with.
- What will happen with the CEO position and Sales Director?
So would I buy this stock right now? Only if you believe the possibility of a sale or buyout may take place soon. If not, I am not sure next quarter will be as good as this last one. In that case, the stock may not move much and end up in a trading channel for a period of time. There is just so much uncertainty right now I would wait until some clouds clear up.
Brocade sells hardware that lets data storage devices and computer servers communicate with each other and transmit hundreds of terabytes of data. Its customers are original equipment manufacturers, such as EMC, IBM and HPQ that build Brocade's directors, switches and routers into their own data storage hardware. Therefore, the demand for Brocade's products is driven by the demand for data storage devices that use networks to connect computers that are far away.
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