Will These Companies Create the Next Killer App?

Chris is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Killer apps are a crazy thing, and software developers have come under serious fire the past few years. After all, with more and more people developing apps for phone operating systems, the old days of someone producing an amazing program from their garage may not be over. This is pretty exciting, but on the other hand it can be a little scary. Of course, even software companies can have blue chip, downright boring potential.

CA Technologies (NASDAQ: CA), for instance, creates systems software for mainframes, as well as cloud and virtual machine computing environments. I've heard that you can tell a lot about someone by who they associate with, and CA's claim that it works with most of the Forbes Global 2,000 companies is pretty good social proof. I like that CA's moat includes more than 400 existing patents, as well as several hundred more in the pipeline. I also like CA's 19.7% profit margin and its roughly 4.4% dividend. For all the good news, I do have reservations about CA's association with large companies in diverse markets. This kind of operation tends to lead to either a cookie-cutter software offering that doesn't meet all of a customer's needs or a company that stretches itself too thin. There is also the little issue of CA's past misstatements of earnings regarding executive compensation. Maybe tech companies are exciting and volatile.

Magic Software Enterprises (NASDAQ: MGIC) is another company that could be considered somewhat volatile. Being based in Israel, which as a country has had a lot of economic and military issues of late, could be a mark against the company. I like how Magic has segued from being all about Unix and DOS to working with the AS/400 and then Windows, which shows a lot of adaptability. My inner dividend junkie also loves the 8.8% dividend Magic presents, although it could always be taken down. By the same token, the relatively low P/E of 10.34 and price/book of 1.5 say that Magic might be trading at a reasonable price right now. It's worth looking into how useful iBOLT and uniPaaS actually are for large organizations. I remember the inexplicable growth of Blackboard across most of the country's universities despite its mediocre user interface and ridiculously poor reliability, so it's a crap shoot.

No discussion of software developers would be complete without Microsoft (NASDAQ: MSFT). Despite the glory days being long past, Microsoft is still a viable and hungry company. I love that Microsoft has its hand in everything high-tech, I appreciate that it pays a reasonable 3.3% dividend and I respect that it's taking the loss of revenue from MS Office to the completely free OpenOffice software suite (which I have proudly used since 2009) in stride. However, I don't like the 3.5 price/book ratio, the fact that Microsoft is already valued at $237 billion (try growing that at anything but a snail's pace) or the fact that the company has hardcore competition in all of its major market segments. Seriously, if I were up against Nintendo, Apple, Google and a host of freeware providers among others, I'd feel like a marked man. It remains to be seen if Microsoft can do anywhere else what it did for operating systems... particularly considering that the home PC is starting to lose ground to smart phones, where Microsoft is far from dominant.

QAD (NASDAQ: QADA) is a bit of an oddball on this list. Producing software solutions, the website seemed jumbled and crowded, almost like QAD is trying to be all things to all people. When I checked on Glassdoor for some employee's-eye views, they weren't too friendly. It seems the company is more interested in window dressing and praising its top performers than in actually rewarding them and investing in the tools people need to do their jobs to the best of their ability. It may be why QAD's profit margins are only 3.8%, its P/E ratio is a slightly steep 20.87 and it's trading at 3.1 times book value. I like the 2.4% dividend, but this is a company that really has to get things together.

Software development is a tricky place to invest. One day a company's on top of the world, and the next it's a wonder the place can stay open at all. As for whether these are going to be the top-performing companies in software, it depends on how they deal with their various issues. This time next week, the worm may have turned in a big way for any or all of them.

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pongun has no positions in the stocks mentioned above. The Motley Fool owns shares of Microsoft. Motley Fool newsletter services recommend Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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