Yesterday, after market close, Polycom Inc. (PLCM) declared highly disappointing financial results for the third quarter of 2011. Soaring operating expenses and a fall in revenue from large enterprises are the primary reasons for this poor performance. We remain concerned regarding the continuation of tech spending by business enterprises under an extremely volatile macro-economic scenario. In synergy with these negative factors, the stock price of Polycom fell by $3.36 (15.39%) in the after market trade on NASDAQ to $18.47.
GAAP net income in the third quarter was $23.7 million or 13 cents per share compared with a net income of $17.3 million or 10 cents per share in the prior-year quarter. However, adjusted (excluding special items) EPS in the reported quarter was 14 cents, miles below the Zacks Consensus Estimate of 21 cents.
Total revenue in the third quarter of 2011 was a little over $379 million, up 23% year over year, but fell below the Zacks Consensus Estimate of $388 million. The year-over-year increase in revenue is mainly due to growing sales in the U.S. Federal markets and several emerging economies, partially offset by lower sales of big businesses.
Geographic Distribution of Sales
In the third quarter of 2011, the American region generated approximately $197 million of revenue, up 16% year over year. Europe, Middle East, and Africa generated $92 million, up 23% year over year. Asia Pacific region accounted for the remaining $90 million, up 41% year over year.
Margins
Gross margin in the reported quarter was 59.8% compared with 59.3% in the year-ago quarter. Operating expenses in the third quarter were $196.9 million, up 23.3% year over year. Quarterly operating margin was 7.8% compared with 7.5% in the year-ago quarter.
Balance Sheet
At the end of the third quarter of 2011, Polycom had nearly $540 million of cash & investments and no outstanding debt on its balance sheet compared with $535.7 million of cash & investments and no outstanding debt at the end of fiscal 2010.
Cash Flow
During the first nine months of 2011, cash flow from operations was $177.6 million compared with $101.7 million in the year-ago period. Free cash flow (cash flow from operation less capital expenditure) in the reported period was $132.2 million compared with nearly $50 million in the year-ago period.
Competition Looms Large
The uniform collaborative communications market is fiercely competitive resulting in cut-throat pricing strategy. Cisco Systems Inc. (CSCO) became a major player after its acquisition of Tandberg. Though Polycom successfully counter Cisco and was able to regain market share from it, the new players such as Logitech International S.A. (LOGI) and Microsoft Corp. (MSFT) makes the competitive landscape more intense.
Earlier, computer accessories maker Logitech entered into video conferencing market through purchasing LifeSize Communications Inc, a developer of high-end high-definition videoconferencing gears. Logitech further acquired Italian firm Mirial, a leading videoconferencing solution provider to offer video-calling on tablets and other mobile handhelds. Microsoft decided to acquire Skype, a leading developer of free video-calling software for PCs and other digital devices. Acquisition of Skype will enable Microsoft to offer videoconferencing from desktop computers.
Polycom also replied accordingly and decided to purchase Visual Collaboration Business of Hewlett Packard Co. (HPQ) including its Halo Products and Managed Services. Acquisition of HP’s video conferencing unit will enable Polycom to expand into lucrative desktop and mobile video conferencing market.
Our Recommendation
As of now, Polycom remains the only pure play unified collaborative solutions provider. The company stands to gain as enterprises, governments, and educational institutions increasingly recognize the productivity-enhancing benefits of video conferencing. On the other hand, intensely competitive nature of the videoconferencing market is the major cause of concern. We thus maintain our long-term Neutral recommendation on Polycom. Currently, it holds a short-term Zacks #3 Rank (Hold) on the stock.
(We are reissuing this article to correct a mistake. The original article, issued earlier, should no longer be relied upon.)
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