Rolling Sourcefire Protected Covered Call For Increased Potential Return

| About: Sourcefire, Inc. (FIRE)

In a previous article related to Sourcefire (NASDAQ:FIRE) posted on April 19, 2012, a protected covered call was considered for the company, as the company's earnings call was fast approaching. The protected covered call position mentioned in the article enabled an investor to protect a position in Sourcefire, in case the company reported some bad news, yet remain positioned for generating a profit. Bad news was not expected from the company, but an investor can never be sure, unless they have some inside information.

Sourcefire markets a variety of products based upon the needs of its customers. Sourcefire provides physical solutions for appliance, virtual solutions and cloud-based. Sourcefire's founder and CTO, Martin Roesch, developed Snort® in 1998 for intrusion detection. Snort is the most widely used intrusion detection and prevention technology on a global basis. Where Snort's capabilities end, Sourcefire's other product offerings take over by providing advanced security products and services. Sourcefire's Next-Generation IPS (NGIPS) provides real-time network and user awareness for improved visibility related to system security. Sourcefire Next-Generation Firewall (NGFW) offers advanced firewall functionality and FireAMP(NYSE:TM) offers advanced malware analysis and protection.

Sourcefire's competitors include Cisco (NASDAQ:CSCO), IBM (NYSE:IBM) and Intel's (NASDAQ:INTC) McAfee.

Since posting the article, Sourcefire's stock price has performed very well as shown below:

Sourcefire's stock price is currently up about 12% following the posting of the previous article. The protected covered call position is up 1.9% and there isn't much time value left in the covered call portion of the protected covered call, so the position should either be closed or rolled.

In the company's most recent Q1 2012 earnings call (pdf) which was held on April 30, 2012, the company reported first quarter revenue of $46.3 million, an increase of 50% over the same quarter in the prior year. It was also noted that international revenue increased 87% over the prior year and the company increased its number of channel partners by 109% over the prior year. The company indicated it believes it can grow its top line revenue by 25% per year.

The prospects for Sourcefire look compelling, but the company's stock price is very expensive with a trailing Price-to-Earnings (P/E) ratio of 262 and a forward P/E in the 60 range. Any bad news, even slightly bad news related to this company, and the price of the stock comes tumbling down.

Based on this, rolling the position to another protected covered call is worthy of consideration. A protected covered call may be entered by selling a call option against a stock and using some of the proceeds from selling the call option to purchase put option for protection.

Using PowerOptions tools, a protected covered call was found for Sourcefire with a potential profit of 5.3% (32% annualized) and a maximum potential loss of 4.3%. Even if the price of Sourcefire's stock goes to zero, the maximum loss that can be sustained is 4.3% (at expiration). The potential profit and maximum potential loss include the profit received for the initial position. The specific call option to sell is the 2012 Jun 55 at $4.50 and the put option to purchase is the 2012 Jun 50 at $1.45. The call option and put option mentioned in the initial article can be closed for $7.00 and $0.05, respectively. A profit/loss graph for one contract of the new position, including the profit from the initial position is shown below:

For a stock price below the $50 strike price of the put option, the protected covered call remains unchanged, even if the price of the stock drops to zero. If the price of the stock increases to around $60-$65, the position can most likely be rolled in order to realize additional potential return.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.