Digital River Falls 10% on Warning: Still Expecting Eventual Upside

| About: Digital River, (DRIV)

Digital River (NASDAQ:DRIV) provides comprehensive e-commerce solutions to retailers of software and other technology products. In other words, if you buy virus protection software from Symantec (Digital River’s largest client) over the internet, Digital River manages both the engine that delivers the software and the promotions that persuaded you to buy it. I’ve been following this stock for years, and have had pretty good success trading it - I bought shares between 27-35 in late 2005 and sold in the high 50s earlier this year on valuation concerns.

Last week, Digital River slashed revenue and profit guidance for the 2nd quarter and remainder of the year, citing delays in new initiatives for Symantec (NASDAQ:SYMC) and Microsoft (NASDAQ:MSFT). The company tried to soften the blow by announcing an increased share buyback and new deal with Microsoft. Yet the market didn’t take kindly, dropping the stock over 10% to under 45.

While this latest development was a disappointing contrast to Digital River’s history of underpromising and overdelivering, I’m inclined to give management a pass this one time. I believe that the underlying business of digital delivery is still strong, as content providers across all industries move away from traditional brick and mortar sales.

Digital River is the number one player in e-commerce management, and its biggest competition is companies’ internal operations. Naysayers need only to look at ADP in payroll processing and Amdocs in customer billing to realize that specialized service outsourcing is a much-needed and lucrative business.

Digital River should get back on track once Symantec fully transfers its global subscriptions business and Microsoft ramps up its Vista sales. There’s also been rumors of Digital River making a big mark in the fast-growing video game market through a major deal with Electronic Arts.

Although I believe Digital River is a solid company whose shares should be much higher 2 or 3 years from now, I think there may be some more downside to the current share price. The current P/E of 30+ seems pricey for a company whose updated guidance calls for only 12% top-line growth this year. I suggest keeping a close eye on this one, but staying on the sidelines until we see a more compelling price or new positive development.

DRIV 1-yr chart

DRIV

Disclosure: SmartGuyAB does not own shares of DRIV