« General Electric’s Earnings | Main | Quotes from Chairman Steve »

Hi Eddy,

For starters I'd like to mention that it is a pleasure to be able to follow your blog and market commentary. My question is to get your opinion on Aladdin Knowledge Systems Ltd. (ALDN).

I have been following this one for quite sometime. The recent market sell off comes on a downwards revenue guidance for the reporting quarter. I could see the market softening in general, but maybe it was an unwarranted extreme sell off. Maybe you can give it to me from your angle just to get a different perception.

Also where do you see the market in general for the remainder of the year? Any idea where capital will flow into?

Thanks for the kind words.

Aladdin is an intriguing little company. It was started by Jacob Margalit about 20 years ago. As someone who recently had their computer hijacked by a hideous swarm of evil viruses, I appreciate the efforts of anyone in computer security. The industry is dominated by a few major players like Check Point (CHKP) and McAfee (MFE). Aladdin does what’s called digital rights management, which basically deals with controlling the access and distribution of digital information.

As you said, Aladdin got body slammed earlier this week due to a revenue shortfall. Volume was huge which leads me to think that a lot of people were looking for a reason—any reason—to head for the exits. I have to say that the magnitude of the sell-off is far out of proportion to the news (three million shares and less than 400 employees!). After all, they didn’t alter their earnings forecast, and they clearly said that the adjustment is due to the timing of their new business.

Ironically, it’s not the revenue side of Aladdin that concerns me. The company’s sales have grown nearly every year for the past ten years. That’s terrific for a small player in this space. Only recently have their operating margins started to climb, which is a very good sign. Keeping that trend alive in the most important aspect of Aladdin’s future.

The earnings are due out on October 27. The consensus is for 23 cents a share. Oftentimes, I would caution against owning a stock that just had a big downgrade before earnings, but I think it’s pretty safe this time. The estimate range is very narrow (just two cents a share), which leads me to think that the Street has already made up its mind.

All in all, I like Aladdin, but I would add a few words of caution. It’s a very small company and highly volatile. The shares have already plunged from $40 to $1. I’m not saying it will happen again, but it has done it before. Also, Aladdin is based in Israel which means that it carries some political risks. If international investors don’t feel safe, there’s not much a little company can do about it. Bottom line: the most important thing is to watch those operating margins.

As far as my overall market outlook, I really don’t have one. I try not to forecast where the market is going, but instead focus on what stocks and industries are doing well. I’m inclined to think that stocks that are more defensive in nature (consumer staples and health care) will show some strength later this year.

Posted by edelfenbein at October 14, 2005 3:18 PM