Friday, December 7, 2012

Riverbed Commentary

The market was right to be apprehensive about Riverbed’s (NASDAQ: RVBD) earnings in the light of two recent disappointments from key bellwethers IBM and Intel, but it turned out to be business as usual for the leader in the WAN optimization market. Or rather it was business as would have been usual before the product transition earlier in the year spooked the market so badly. No matter--the company is demonstrating that there are areas of technology that are relatively strong, and investors should seek them out.

Tech Results in General

IBM scared the market with its talk of revenues dropping off in North America and its growth markets in September, but as I’ve tried to argue in a previous article, IBM’s results are really part of a trend in weakness within its operations and the markets it competes in. It is a story of hardware weakness but software strength. Furthermore, with Intel’s ongoing weakness we are seeing a reflection of this shift to spending on software, data centers, cloud computing and mobile devices.  So the key for investors is to find areas of technology that are holding up well.

I chose my words carefully because in general tech spending is slowing. The IT security plays are relatively less exposed to discretionary spending, yet both Fortinet (NASDAQ: FTNT) and Check Point Software (NASDAQ: CHKP) gave weaker outlooks. Fortinet’s revenue guidance reduction was hardly dramatic, but it comes after management (including the much-vaunted but departing CFO Ken Goldman) proved to be overly enthusiastic in their predictions of the last set of results. But so what? The company will still generate lots of cash flow and mid-teens revenue growth this year.

As for Check Point, it hit estimates but lowered guidance and the stock was punished. I think the management may be conservative, so I put my money where my mouth is and bought some more. Even on a conservative estimate this business generates so much cash that it could easily pay a 4-5% dividend yield and still use the $1.5 billion (17% of market cap) in net cash on the balance sheet to buy back stock. No one likes to see flat product revenue growth, but overall revenues were up 8% and deferred revenues were up 11%. Given the conservatism over the balance sheet I think it’s time for investors to ‘get involved’ with the management over returning cash to them or investing it. We don’t hire management to park cash on balance sheets.

Riverbed Delivers

Turning back to Riverbed, what we are seeing here is a continued ‘snapback’ in growth following the product upgrades and new launches made earlier in the year. The company looks like its sales force has been restructured and is back on track.




Not only is it performing well, but management is seeing normal linearity (so no IBM-style drop off in September) and federal and enterprise spending are both strong. As for the new products, Granite’s growth was described as being ‘great.’ Its numbers aren’t material yet, but Riverbed is comparing its initial growth to its Steelhead product.

 It’s worth noting that Riverbed has 50% of the WAN optimization market, so it really is the bellwether here, rather than Cisco, which only owns 22%.  In other words, what Riverbed says is pretty much how it goes for its market. I want to put the last couple of quarters’ results and the Q4 guidance in a historical context.




It’s clear that the guidance is for a sequential gain pretty much similar to last year's. In this environment it’s fair to say that may be setting a high benchmark.

Where Next For Riverbed?

The market will now look to F5 Network's (NASDAQ: FFIV) results this week in order to get a fuller picture. Riverbed also sells application delivery controllers (ADC), which is F5’s core market.  However, the key point is that many of F5’s end market drivers are the same as Riverbed’s. Riverbed’s results suggest that F5 will do okay, but the latter has been reducing guidance this year  and Telco is a key vertical for it. It is anyone’s guess what its results will bring, but Riverbed investors need to watch them closely.

Riverbed remains attractively priced and is a potential takeover target. I like the stock, but the guidance will come into question if the tech market heads downwards from here and things companies F5 and Aruba Networks give poor results. Cautious investors might want to watch developments and wait for a possible dip here.