Sunday, March 2, 2008

Novell (NOVL) Nose Up?

Novell had its analyst conference and released its results for fiscal Q1 2008 ending January 31, 2008 last Thursday.

Investors bid up the price of Novell stock almost 14% on Friday. I don't own Novell stock, though I have been watching it for a couple of years now. Of course I first became of Novell back in the early networking era, let's call it the 1980s.

For the quarter numbers and management presentation, you can look at my Novell Analyst Conference Summary for February 28, 2008. In this blog I'll be looking at some peculiarities in the results.

Revenues were Revenues were $231 million, up 6% from $218 million year-earlier. 6% in a year is not exactly rapid growth, but that might already be reflected in the stock price. In the quarter ending 10/31/2008 revenues were $226 million, so sequential growth was 2%. No questions there; revenue is (usually) revenue.

But how profitable was that revenue? There is where confusion reigns.

The best starting point, in my opinion, is GAAP net income. Novell reported that at $16.8 million. That is not much income for $231 million in revenue, but it is a turn-around from the year-earlier number, when Novell reported a loss of $19.9 million for the quarter.

Then you have non-GAAP net income. This is where corporations cheated a lot during the late 1990's. Whenever you look at non-GAAP numbers you want to be sure why they differ with GAAP numbers. In some cases they are a better indicator than current reality than GAAP because they exclude non-cash charges that are more an admission that the past was not as bright as they thought back then than an indicator of current conditions. But in other cases they are just management spin, so beware.

Novell gave non-GAAP net income for the quarter - for continuing operations - as $29 million or $0.08 per share. Which shows they did pretty badly with discontinued operations.

Usually good non-GAAP numbers are paralleled by good cash flow numbers. But they reported cash flow from operations at negative $26 million. They attributed that to heavy interest and restructuring payments.

Interest? But Novell has been sitting on a ton of cash for years; it has been the main prop for the value of its shares. It ended the quarter with cash and equivalents of $1.8 billion. It reported "other income" of $17 million, which usually (for other companies) is mostly interest on the cash.

Which means GAAP net income would be underwater if not for the interest on the cash.

As to the negative cash flow, the main ingredients are, starting with GAAP net income rounded to $17 million, were plus $11 million for (subtracting back out) stock-based compensation expense. Plus $9 million for depreciation and amortization (because it was non-cash). Plus $5 million for using up NOLs (net operating losses carried forward). And minus $66 million for "Changes in current assets and liabilities, excluding the effect of acquisitions and dispositions."

So you have to ask yourself, are there going to be future negative "Changes in current assets and liabilities, excluding the effect of acquisitions and dispositions?" How would one know? If it were a non-cash charge, I would not care very much, but it is a cash charge. It is real.

And you have to ask yourself how much a stock is worth when, if you subtract out the interest on cash, there are no GAAP profits.

And then there are the acquisitions. The Platespin acquisition due to close soon will eat up about $200 million of the cash, but generate no profit in the short run. How much do you want to bet Platespin will generate profit in the long run?

Of course, there are good reasons for optimism. Novell's new open-source, Linux driven strategy is generating growing revenues. Its partnership with Microsoft has helped it a good deal, in addition to infusing cash.

I don't want to put a valuation on Novell stock at this point. The outlook is too murky for me. With market capitalization ending Friday at $2.6 billion, or $800 million above cash, I would say look at the other opportunities available before plunging in. Don't buy on news you don't understand.

And keep diversified.

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