Cybersecurity solutions provider Imperva (NYSE:IMPV) just pre-announced a dismal set of quarterly earnings numbers and given the language provided in the press release, investors will most likely have to prepare for substantially lowered full year guidance on the company's regular quarterly earnings call on August, 4.
Frankly speaking, the writing has been on the wall for quite some time as the company's guidance for both Q1 and Q2/FY2016 already came in below expectations. On both occasions the shares sold off substantially, but each time recovered within the next three months and even crossed above the price the stock was trading at the time of the poorly received earnings reports and guidance.
Three months ago, management blamed the disappointing short-term outlook mainly on execution issues in the EMEA region and slowing growth in the company's web application firewall business. Nevertheless Imperva at that time actually increased its EPS outlook for FY16 and affirmed revenue guidance based on alleged pipeline strength and expectations for a spending rebound in the second half of the year.
Over the last quarter, things have seemingly become a lot tougher for Imperva as the company's CEO now admits to "extended sales cycles across most geographies and verticals predominantly related to larger deals". Moreover the company experienced a reduction in size of several large purchases leading management to the conclusion that " (...) we are starting to see a reversion to pre-2015 procurement patterns, in which companies are breaking down projects into phases and buying and implementing over time rather than making a large up front purchase to protect most of their key databases.
Management also pointed to the need of adjusting the company's sales and customer strategies but declined to comment further on the issue on the conference call following the pre-announcement.
Despite the setting within short notice, the call was attended by a large number of analysts but clearly they could have abstained from calling in as management basically declined to comment on anything asked by the analyst community and instead pointed to the upcoming regular quarterly conference call roughly three weeks from now for potential further color. So no material information beyond the press release was provided.
As could be learned last month, not only the strong overall market contributed to the repeated recoveries in Imperva's stock price, but also activist investor Elliott Associates building a roughly 11% stake in the company over the last few months clearly helped things.
Just last Friday afternoon, Reuters reported that the company is seeking to hire an investment bank to help it explore strategic options at the demand of Elliott Associates.
After today's substantial earnings warning and most likely a large guidance cut for FY16 right in front of us, I do not view a short-term deal as likely anymore as the company will most likely have to implement far-reaching changes across the entire organization in order to adjust to the new normal in the business environment.
To put things into perspective, the company's year over year growth rate slowed from 33.5% in Q1 to just around 8% during Q2. Full FY16 expectations are currently calling for revenue growth of roughly 30%, but after the first half of FY16 the company recorded just below 20%. Given current expectations for revenues of $81 mln in Q3 and $97 mln for Q4, a very substantial reset will be required most likely. Even when using the dismal Q2 year over year growth rate of just 8%, Imperva would be required to record Q3 revenues of almost $70 mln and Q4 revenues of close to $80 mln which I would view as quite a stretch given the sheer size of the Q2 miss.
In the end, the company might be lucky to match the strong H2/FY15 performance of $136 mln in revenues - this would leave the company's annual growth rate at just 8.5%, an unacceptable performance for a perceived high-growth company like Imperva. Moreover I would expect the company to record a sizable loss instead of the expected profit.
That said, investors might want to take a short look at the company's preliminary first quarter 2014 results press release which already contained language very similar to today's earnings warning with management blaming extended sales cycles on large deals.
Imperva's shares were punished severely at that time, losing almost 70% of their value during the weeks following the earnings warning and briefly traded below $20. The company later changed its CEO and subsequently slowly improved its financial performance over the rest of FY14. With some help from a slew of high-profile security breaches causing orders to soar in FY15, the share price actually reached new highs towards the end of the year.
This time, things will be different for Imperva as another business kickstarter in form of a new wave of high-profile security breaches doesn't look very likely here.
Instead, investors will have to prepare for substantially slower growth rates than initially expected by the company going forward, making Imperva's valuation looking much less favorable. At an anticipated 25% annual growth rate and substantial profitability, the company was selling for just four times expected FY17 revenues and looked indeed like a steal until today's pre-announcement, particularly when taking into account the roughly $8 in cash and no long-term debt on the balance sheet.
But with growth expectations most likely coming down to the high single digits for the time being and profitability in limbo, a calculated FY17 revenue multiple of 5.5 clearly doesn't look appropriate here.
So Elliott Associates will most likely have to stay with its Imperva stake for longer than initially anticipated as a sale of the company in its current state looks highly unlikely. While Elliott acquired its stake at an average price in the mid-$30s, the chances for a quick and highly profitable exit clearly have diminished substantially this afternoon.
As almost the entire float of Imperva is owned by institutional investors, tomorrow will most likely be a big boys' battle. While I could imagine some hedge funds that simply piggybacked Elliott potentially exiting their positions, Elliott themselves might very well decide to add some more shares to their already large position. As Elliott has sold put options for roughly 200k additional shares at a strike price of $40, their stake might increase anyway - even without actively purchasing stock in the open market.
At the time of this writing, the shares are trading down a mere 10% at the end of the after hours session. Given the fact, that the stock gained 7.5% in today's session due to Friday's report about the company being in the process of retaining an investment bank to explore a potential sale, the shares are only down a buck compared to Friday's close.
The outcome of tomorrow's session for the shares will largely depend on Imperva's large institutional shareholders and their respective assessment of the new situation. Accordingly, investors should expect quite a bit of volatility.
Given the sheer size of the projected earnings miss and without the recent activist investor involvement, I would have projected the shares to be down north of 25% tomorrow, but clearly this won't be the case given the situation around Elliott Associates here.
Anyway, given today's news, I don't think a sale of the company will be likely over the next few quarters and therefore I expect some of the recent hedge fund activity and the associated support for the share price to abate going forward.
Most likely it will take Imperva several quarters to potentially regain its footing and re-establish growth rates more in line with its peers and the expectations of the financial community, so investors should not expect a sale of the company at a large premium anytime soon.
Given today's dismal numbers and an expected major near-term guidance cut , the company doesn't look like a bargain anymore and might actually provide a nice short opportunity going forward.
While betting against the stock might appear quite risky in light of the recent activist investor involvement, I simply don't see how the shares should move much higher given the company's current condition. As always don't bet the farm and place a stop-buy in order to manage your risk. If successful, don't forget to take some profits along your way.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: As a daytrader I have actively traded the company's shares in the past on many occasions and might consider to do so going forward at any given time.