Putting the Brakes on Brocade

Back in August, data-management specialist Brocade (Nasdaq: BRCD) shelled out $973 million for McData to bolster its position in the enterprise-storage market. Investors panned the deal and thought companies such as Cisco (Nasdaq: CSCO) would poach customers. The concerns were legitimate, but Brocade has demonstrated success with the deal -- even if it is still facing some headwinds, thanks in part to a softer IT market.

Late last week, Brocade announced its fiscal second-quarter results. Revenues surged 89% to $345.3 million, thanks in part to a nice boost from the McData revenue base. On the other hand, one-time charges related to the deal helped to mute net income. Profits were only $843,000, or breakeven on a per-share basis. In contrast, the business posted a profit of $13.5 million, or $0.05 per share, during the same period a year ago.

McData's relatively lower-margin product line also depressed Brocade's gross margin, which fell from 57.5% to 52.6% over the past year. Yet management believes that it can achieve a level of 55% to 58% over the long term.

Wall Street was also disappointed with the fiscal Q3 revenue guidance of $330 million to $340 million. The stock price plunged 8% on the news.

While it's not uncommon to lowball estimates, it does look as though there's an information-technology slowdown in North America -- seen in the results of Brocade competitors such as Qlogic (Nasdaq: QLGC) and Network Appliance (Nasdaq: NTAP).

Over the long term, I think, Brocade is a good growth story. The company has a large customer footprint and an extensive product offering. But the next couple of quarters could experience a temporary lull from competition, a slowdown in IT, and continued integration of McData.

For related reading:

• Brocade Turns the Corner
• Cisco Revisited
• Brocade Weaves a Rich Quarter: Fool by Numbers

Fool contributor Tom Taulli, author of The Complete M&A Handbook, does not own shares mentioned in this article. He is currently ranked 1,161 out of 29,574 rated players in Motley Fool CAPS, the Foolish investor-intelligence community that you can join for free.