Drop in Retalix Margins Alarms Investors

It’s never fun to see a stock that you hold find it’s way onto the highest percentage losers list. You know that when it happens it’s going to be a long day. Tuesday started out as a nice day, I even bought lunch for the office (there is a first for everything!), and then Retalix (RTLX) came out with its earnings. Bang! Down 15.5%. Both its top and bottom line were basically in-line with guidance. So where was the problem?

Investors were clearly spooked with a drop in margins. Its gross margin for the period was 53%, and the adjusted gross margin (Non-GAAP) was 55.0%, compared to gross margin of 58.1% and adjusted gross margin (Non-GAAP) of 60.5% in the second quarter of 2006. It’s generally not the greatest news to hear of sliding margins, but in the case of Retalix, all is not lost.

Its total revenues and net loss, both improved dramatically over same period in ‘06. The company continues to sign new deals, and seems to be executing its business model nicely. The question remains, was Tuesday’s sell-off justified, or was it another case of the market overreacting?

According to Barry Shaked, President and CEO of Retalix:

The results of the second quarter were in line with our expectations. As we predicted, in the first two quarters of 2007 our revenues were just above 45 percent of our total guidance for the year. We believe that we are on track to achieve our stated top line goal for the year. We have a pipeline of prospective customers and we are working on getting these new license contracts signed by the end of this year in order to also achieve our bottom line goal. At the same time, we are taking steps to improve our cost structure and minimize operating costs. We have made it a top priority to improve our gross margin and our operating margin.

It seems to me that the company is taking steps to correct the declining margin issue, and otherwise, the business is doing well with a nice pipeline. With the stock now trading under $16, this looks like a great entry point for investors who are looking for an interesting company, with strong growth.

Disclosure: The author has a position in RTLX as of August 22, 2007.

RTLX 1-yr chart: