Extreme: Light Quarter, Denser Products

Extreme Networks Inc. (Nasdaq: EXTR) missed analysts' revenue expectations today when it reported its fiscal third-quarter 2003 earnings. Company officials said they hope to improve business in the next quarter with third-generation silicon, a new set of dense Gigabit Ethernet line cards, and a new 10-Gbit/s Ethernet product.

Analysts covering the company aren’t too surprised by the weak quarter, given that Ethernet switching leader Cisco Systems Inc. (Nasdaq: CSCO) is also expected to have weaker sales (see Sources: Cisco's Sales Light).

Extreme reported that for the quarter that ended March 31, revenue was down to $85.2 million, compared to revenues of $90.5 million in the previous quarter (see Extreme Reports Q2 Results). Revenue for the same quarter a year ago was $111.1 million. Analysts reporting to First Call expected the company to come in with $87.6 million.

The company lost $7.6 million, or $0.07 a share, including deferred compensation. This compares to a net loss of $19.7 million or $0.17 per share for the second quarter of fiscal 2003. Analysts were expecting the company to lose $0.02 a share.

As the entire communications industry languishes in recession -- if not depression -- it's a crucial time to look at next-generation product plans. Extreme is hoping new product lines will help it generate more revenue. Today, the company introduced two new modules for the BlackDiamond chassis-based switch. These modules are based on the new third-generation Triumph chipset, which will help improve Gigabit Ethernet densities, a major requirement for enterprises looking to connect servers, PCs, and workstations using Gigabit Ethernet (see Extreme Goes GigE With Triumph).

Executives remain mum on the company’s 10-Gbit/s Ethernet strategy. Extreme currently offers a one-port 10-Gbit/s module, but, like some of its competitors, it doesn’t consistently perform at line-rate.

The company says it is working on a next-gen product that will forward at line rate. An early version of this product is supposedly in alpha tests, but the company would not discuss specifics. Sources say Extreme is also working on a 40-Gbit/s Ethernet solution that would leap-frog its competitors' latest offerings (see Extreme Hatches Switch Surprises).

While the 10-Gbit/s market is still in its very early days, Extreme is starting to look like a laggard in terms of technology. Force10 Networks Inc., a Silicon-Valley startup, was the first to announce true line-rate 10 Gbit/s. Two other incumbent switch vendors have recently claimed the same. Last week, Cisco announced new 10-Gbit/s modules and an updated supervisor module for its Catalyst 6500 (see Cisco Takes On 10 GigE Competition). Today, Riverstone Networks Inc. (Nasdaq: RSTN) announced two new products for 10 Gbit/s (see Riverstone Fuels 10GigE Price War). Both companies claim line-rate performance and rock-bottom pricing.

Pricing is a big concern in the business, where everybody appears to be feeling some pressure. While weak revenues certainly hurt Extreme, it also saw its gross margins dip to 45.5 percent. On a conference call with analysts this morning, executives blamed this drop in gross margins to service issues. They reassured analysts that the situation is being worked out and should not affect margins going forward. As a result, the company expects gross margins to return to their normal 50 percent range in the coming quarters.

As for the future, the company was cautious about making promises, but Harold L. Covert, vice president and chief financial officer offered some hope. He said Extreme's book-to-bill ratio was “solidly above one," giving the company a headstart on sales for the next quarter. Covert also said that the Japanese market, which is traditionally weak in the June quarter, is expected to remain flat this quarter. Factor in the fact that the fourth quarter is traditionally a strong one for Extreme, and the company looks to be in decent shape.

“Our orders were a little bit stronger this quarter,” says Gordon Stitt, president and CEO of the company. “But we don’t have the visibility to project what the revenue will be. We’d like to achieve sequential revenue growth.”

Extreme’s miss was enough to help shave a few percentage points off the stock today, while the general markets rallied. Shares of the company were trading down $0.23 (5.16%) to $4.23, at midday.

— Marguerite Reardon, Senior Editor, Light Reading

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