Analysts Chart Extreme Comeback

Analysts are talking about a comeback at Ethernet switching vendor Extreme Networks Inc. (Nasdaq: EXTR).

Extreme, whose profits and share price have been hit hard in the downturn, may be close to naming a new chief financial officer, sources say. And analysts are optimistic that a new product cycle could help boost revenue.

Today, Mark Sue, an analyst with CE Unterberg Towbin, upgraded the company’s stock from Market Perform to Buy. Sue also increased revenue estimates for fiscal year 2004 from $411 million to $420 million, based on higher contributions expected from new products. The official guidance from the company is about $400 million for fiscal 2004. Its stock was trading up $0.22 (3.42%) to $6.65.

Other analysts following the company are also upbeat on its prospects.

“I think they’re turning the corner,” says Sam Wilson, an analyst with JMP Securities, who upgraded the stock in July to Market Outperform.

One key element to any turnaround will be the addition of a new CFO. The company has been without a permanent finance chief since July, when Harold L. "Hal" Covert resigned his post (see Extreme's CFO Checks Out). Several analysts report that the company has narrowed the playing field down to three candidates. Gordon Stitt, the company’s CEO, has supposedly told some analysts he hopes to have the new executive in office by the time the company reports second fiscal quarter earnings, which is only a few weeks away. The company would not officially comment on the status of the CFO search.

“It’s very important that they get a new CFO in there,” says Alex Henderson, an analyst with Salomon Smith Barney. “The challenge for Extreme is to get their valuation back and to eliminate the perception that its products have been commoditized. It also needs to address the turnover in management. Getting a new CFO on board is the first step in getting this done.”

The company has remained tight-lipped about who these three candidates might be. Some have speculated that the company has had a difficult time filling the slot. Covert resigned after supposedly disagreeing with CEO Gordon Stitt and other top executives about the best way to reach profitability. Covert had wanted to make more headcount reductions, while Stitt insisted on reaching breakeven through increasing revenue, says one analyst who didn’t want his name used.

The company is also expected to increase its revenues in the next few quarters. Its Layer 3 IP routing and switching business seems to have stabilized, and its newer products in the portfolio should be big contributors, says Sue. Specifically, the company has introduced a new wireless product that contributed to the September quarter (see Extreme Ships Wireless LAN Kit). And it’s expected to be ready with a next-generation 10-Gbit/s Ethernet switch in December (see Extreme Intros 10-GigE Platform).

Some have criticized the company for coming late to the 10-Gbit/s Ethernet market. Competitors Cisco Systems Inc. (Nasdaq: CSCO) and Foundry Networks Inc. (Nasdaq: FDRY) have already introduced their next-gen products (see Cisco Takes On 10 GigE Competition and Foundry Unwraps 'Mucho Grande'). But most market researchers agree that the market sector won’t really take off until late 2004 and into 2005 (see 10-Gigabit Ethernet Switches and Routers).

The company’s stock has managed to climb during the last few months. In fact, it has risen from a 52 week low of $2.33 a share, closing at $6.65 per share today. But analysts say the management uncertainty has hurt investor confidence.

“Anytime there’s instability in the top ranks it detracts from the focus of the company,” says Jim Kelleher, an analyst with Argus Research. “They really need a complete team to make everything flow.”

Even with a new CFO and new products, the company still has a long way to go. For the past two quarters, Extreme has only incrementally increased revenues. It reported $87.3 million in revenue in its fourth quarter, compared to $85.2 million in the third. It posted a net loss of $170.4 million in the fourth quarter, but that included a non-cash charge of $154 for tax purposes. The company did not provide guidance for the September quarter, but analysts expect it to be around $90 million.

By contrast, the company’s key competitor, Foundry, reported revenues of $95.7 million in the June quarter with a net income of $16.8 million. Foundry's stock traded up $0.32 (1.46%) to $22.20 today.

“Foundry pretty much has the same product line and about the same revenue base,” says Kelleher. “And their stock is trading at three times Extreme’s. It’s time for Extreme to start executing.”

— Marguerite Reardon, Senior Editor, Light Reading