Highly Leveraged Networker Blue Coat Systems Falls Hard On Pre-Announcement (BCSI)

"Slash" submits: Networker Blue Coat Systems (BCSI) pre-announced negatively Monday morning, and the market cap took a 39% haircut -- not surprising, given that BCSI is one of the high-flying high expectations/high multiple stock. The company provided absolutely no details regarding the miss (that never helps in negative pre-announcements).

The really interesting educational lesson coming out of this pre-announcement was the importance of leverage. BCSI had originally guided to $38.2 million to $39.3 million in revenues and EPS between $0.32 and $0.36. Company now expects revenues in the range of $34.5 million to $35.1 million and EPS between $0.15 and $0.19. With a mere $4 million miss on the top line the company expects EPS to be cut in HALF!

Can you imagine running a company where your operating margin can be cut in half if you come in roughly 10% short of your goal? Obviously leverage works both ways and in this instance it had a negative affect. This suggests that

a) there is some serious pricing pressure (from WBSN?) out there, especially given that the company supposedly raised prices on its products last year,
b) the company had a huge spike in operating expenses (which any good management should have seen coming), or
c) combination of both factors.

My money is on the first option. BCSI is surely seeing slowing growth in its core proxy product and its web filtering product is already discounted generously against competitors. In order to meet growth goals (to support the high multiple) the company is further discounting products and that leads to the operating margins taking a serious hit.

We will not know the real cause until further details are revealed on February 14th conference call. But the slowing growth and lower profitability will definitely lead to lower valuation multiple. One positive thing this miss provides is that it sets the bar lower for the company which it might need especially given the recent expensive acquisition company recently announced and its plans to compete in the hotly contested L4-L7 market.

BCSI 1-yr chart: