4 Computer Software Stocks Dominating Their Industries

by: Joshua Hayes

The stock market has started another uptrend, following the October fourth reversal. During this uptrend, as each day goes by, more and more stocks are setting up in proper bases with the correct heavy accumulation and quiet distribution that is the normal characteristic of stock bases that can launch stocks to much higher prices.

Retail stocks are dominating the new highs list and are definitely the strongest stocks relative to the market. However, plenty of Electronic, Internet, Computer, and Computer Software stocks are enjoying strong recent price gains on strong volume. This price action, along with the banks and homebuilding hammering out possible bottoms on strong accumulation, make it possible stocks are about to enjoy a nice year end rally.

I have profiled many stocks over the past few months that have the potential to produce significant price gains based on their current fundamentals and technicals. Today, let’s continue this trend, by looking at four fundamental growth machines in the Computer Software sector.

Let’s start it off with Nuance Communications (NASDAQ:NUAN) in the Computer Software-Desktop industry group. Nuance Communications is a Burlington, MA developer of embedded speech and digital imaging software for customer service intensive industries.

Sequential EPS growth has been 10%, 21%, 17%, 15%, 3%, -3%, 14%, and 17% the past eight quarters. Sales growth, during this time, has jumped 4%, 21%, 19%, 13%, 18%, 16%, 17%, and 20%. This growth is expected to continue with 2011 and 2012 annual EPS estimates for gains of 13% and 19% respectively.

Nuance Communications carries a 37% debt to shareholder equity, a return on equity of 17%, a cash flow of $1.44, and a P/E ratio of 21 which is in the mid-range of its historical 5-year range of 7-36. Another positive is that Nuance Communications spends 13.6% of its sales on R&D.

The impressive numbers above is the reason management still owns 26% of the shares outstanding and mutual fund ownership has improved from 665 funds to 708 funds the past four quarters.

Next up, in the Computer Software-Database area, we have Opnet Technologies (NASDAQ:OPNT). Opnet Technologies is a Bethesda, MD developer of application performance and network configuration management software for enterprise government agencies.

Opnet Technologies sequential EPS growth has grown -23%, 17%, 600%, 800%, 60%, 64%, 43%, and 133% the past eight quarters. During this time sales growth has increased -5%, 6%, 19%, 12%, 18%, 18%, 19%, and 29%. There is no expected upcoming slowdown either as 2012 and 2013 annual EPS gains are expected to come in at 55% and 25% respectively.

Opnet Technologies has a 0% debt to shareholder equity ratio, a 12% return on equity, has a cash flow of $0.83, and spends 23.5% of their sales on R&D. Opnet Technologies does carry a high P/E ratio at 56 but with the expected future growth it really is something savvy growth investors know to not be concerned about.

This company’s powerful growth in the top and bottom lines is the main reason management continues to hold a 35% stake in the shares outstanding and why mutual fund ownership has jumped from 152 funds eight quarters ago to the 258 in the stock today.

Another stock in the Computer Software-Database industry group with strong growth is Commvault Systems (NASDAQ:CVLT). Commvault Systems is an Oceanport, NJ developer of backup and recovery, replication, archival and storage management software for enterprises.

Sequential EPS growth for Commvault Systems the past eight quarters has come in with gains of 0%, 27%, 133%, -27%, 12%, 16%, 19%, and 91%. Sales growth during that time has been just as impressive with gains of 5%, 18%, 31%, 10%, 13%, 18%, 22%, and 38%. 2012 and 2013 show no slowdown with annual EPS gains of 20% and 16% expected respectively.

Debt to shareholder equity is 0%, the return on equity is 20%, cash flow is $0.89, and the company spends 11.7% of its sales on R&D. The P/E ratio is a high 51 near the top of the 5-year range of 12-55 but with a stock showing this much future potential it is fair for it to carry such a high P/E ratio. Savvy investors know P/E ratios have never made any great trader rich over a long period time frame.

The growth above is, once again, the main reason management still owns 13% of the share outstanding with mutual fund ownership rising from 394 funds four quarters ago to 429 funds today.

Finally let’s take a look at a leader in the Computer Software-Design industry group. Cadence Design Systems (NASDAQ:CDNS) is a San Jose, CA developer of electronic design automation software and related hardware for electronic companies in circuit design.

Sequential EPS growth has been more impressive for this stock than the others we have reviewed with gains of 250%, 120%, 240%, 33%, 17%, 350%, 71%, and 250% for the past eight quarters. Sales growth during the same time frame has grown -3%, 8%, 8%, 10%, 13%, 20%, 25%, and 23%. Just like the other high quality stocks we have reviewed, Cadence Designs 2011 and 2012 annual EPS expectations are high with gains of 150% and 30% respectively.

Debt to shareholder equity is high at 147% but with a return on equity of 27%, a cash flow of $0.46, and with it spending 40.2% of sales on R&D the debt is a non issue.

Unfortunately, management only has 2% of the shares outstanding. However, mutual funds seem to have an appetite for shares lately as 512 funds now carry a position in Nuance Communications versus the 405 four months ago.

These high quality fundamentals help us identify these potentially powerful stocks. However, buying stocks blindly, alone, without using technical analysis is simply gambling. Putting the odds completely in your favor is the only way to profit in market environments like we have seen the past year.

For Nuan Communications to become a new long it will need to create one more base now that the 50 day moving average is above the 200 day moving average. If it can break out of a well formed base on strong volume it would become a new long for my personal accounts.

Opnet Technologies is in one of the better price setups with prices near new highs. A pocket-pivot point move off the 10 day moving average on strong volume that sends the stock to a new high would trigger a buy signal.

Commvault Systems is also creating a sound quite base and a break out on strong volume to a new high would trigger a new long position.

Cadence Design Systems has blasted off to a new 52-week high on very strong volume on October 27th. If the stock can build another base, which should then have the 50 day moving average over the 200 day moving average, and break out of it on strong volume, Cadence Design Systems would be a new long.

If you miss the break out attempts, buying these stocks on heavy volume bounces off the 50 day moving average that is preceded by a lower volume pullback will work. Also, you may purchase them with legitimate pocket-pivot point buy signals off the 10 day moving average where the up volume is bigger than any lower session volume over the past 10 trading sessions.

If the stocks do not move higher immediately, once they are purchased, I will cut my loss and reevaluate the stock for a future entry.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in NUAN, CVLT, OPNT, CDNS over the next 72 hours.