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Akamai's Agony

Yesterday's reaction to Akamai's (Nasdaq: AKAM  ) earnings report reminds me of a great conversation I had yesterday while flying home. It all started when a saleswoman from Hidden Gems pick CardioDynamics (Nasdaq: CDIC  ) asked me how the stock market could undervalue her company. I'm afraid my answer wasn't all that reassuring. Stock prices are determined by supply and demand, not valuation, I explained. CardioDynamics may be cheap simply because investors aren't paying attention. And the same may be true for Akamai.

Tuesday evening, Akamai, whose network speeds up the delivery of content over the Internet, reported that revenue grew 5% sequentially to $50.8 million. That's up 35% from $37.8 million in last year's second quarter. Earnings were up 133% sequentially, to $6.8 million from the first quarter's $2.9 million.

Predictably, the good news rattled investors, who punished the stock by more than 5%. Why predictable? Take a look at this chart and tell me it doesn't look like a hyperactive 2-year-old on a sugar high jumping on a trampoline. Akamai investors just can't decide when results will finally be good enough.

Indeed, try as we might to avoid it, investing is an emotional experience that Motley Fool Income Investor chief analyst Mathew Emmert says demands emotional discipline. So, when it comes to Akamai, let's focus on the facts.

First, what's bad? Well, for one, Akamai's diluted share count jumped almost 13 million during the quarter. Management said the spike accounts for the potential dilution from its $200 million in 1% notes. Indeed, debt is the firm's biggest problem. Despite recent progress, Akamai still sports $294 million in obligations that cost roughly $7 million in interest each year.

But there's also plenty that looks good. For example, free cash flow should easily cover interest while allowing for further retirement of debt. The company also grew its base of customers under recurring contract by 4% from the March period. During the second quarter, this group spent an average of more than $41,000, up 17% from last year. Management says much of the boost comes from greater overall demand, but a full 30% of recurring revenue is the result of filling customers' unanticipated needs for bandwidth, such as when there's a sudden surge in demand for music downloads. (Apple's (Nasdaq: AAPL  ) iTunes music store is a customer.)

Call me contrarian, call me nuts, call me a Fool, but I see no cause for alarm in Akamai's report. In fact, I think it provides an important investing lesson we can't repeat enough: If the underlying business conditions that caused you to invest in the first place don't change for the worse, don't sell. It's because of that maxim that I'm still an Akamai owner today.

CardioDynamics is just one of the picks Tom Gardner and our Foolish band of analysts have put together for a market-thrashing portfolio forMotley Fool Hidden Gemssubscribers. Give it a try risk-free for 30 days.

Fool contributor Tim Beyers owns shares in Akamai. You can view his Fool profile here.

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