Foolish Forecast: Nuance Pays the Price

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On Monday, speech-recognition specialist and Motley Fool Hidden Gems recommendation Nuance Communications (Nasdaq: NUAN) will report its third-quarter results after the bell. Let's listen in and see what's in the pipe.

What analysts say:

• Buy, sell, or waffle? Out of the 15 analysts who follow Nuance, 12 have a buy rating on the stock, while the other three have it on hold. In our Motley Fool CAPS community, 5,560 members have voiced an opinion on the company, collectively giving it a rating of four stars out of five.
• Revenue. On average, analysts forecast revenue of $232.3 million, 48% higher than last year.
• Earnings. Net income is estimated to come in at $0.21 per share.

What management says:
Nuance continues to trumpet growth in all areas of its business, some of it organic, but much of it coming from recent acquisitions that are boosting revenue. The company says its mobile and embedded unit continues to experience strong consumer demand, and it recently nabbed new design wins with big-name device manufacturers such as LG, Motorola (NYSE: MOT), Nokia (NYSE: NOK), Palm (Nasdaq: PALM), Research In Motion (Nasdaq: RIMM), and Sanyo.

Nuance's chairman and CEO, Paul Ricci, said that this strength, along with the company's continued expansion and new acquisitions, "position[s] us to sustain revenue and earnings growth through the remainder of the fiscal year."

What management does:
The bad news is that there's a high price coupled with that growth. The acquisitions and shares issued to keep key employees have been dragging margins lower lately.

Margins	12/06	3/07	6/07	9/07	12/07	3/08
Gross	71.3%	70.1%	69.9%	69.3%	68.2%	66.6%
Operating	5.9%	6.3%	8.2%	6.5%	4.9%	2.2%
Net	(4.3%)	(3.9%)	(3.2%)	(2.3%)	(4.3%)	(7.2%)

All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
Though much has changed with Nuance over the years, much remains the same -- the company, and shareholders, are paying now for returns that, it's hoped, will come later. Few doubt Nuance is in the right places with the right products, and the company continues to innovate and deliver new services, such as a voice-based search application for the Apple (Nasdaq: AAPL) iPhone.

But current shareholders don't own as much of the company as they used to -- shares were diluted by an offering late last year, followed by another one in June that raked in $100 million. Keen ears should listen to updates on Nuance's operational management, though -- the costly acquisitions are keys to a future profit. If margins continue to suffer, it may be a sign that some acquisitions are not working as well as had been envisioned.