Ceragon Gets Bigger

On Tuesday, Motley Fool Hidden Gems recommendation Ceragon Networks (Nasdaq: CRNT) stunned Mr. Market with a one-two punch to the sternum, and investors are feeling the pain. The provider of "wireless backhaul solutions" to telecoms like Royal KPN (NYSE: KPN), equipment makers like Nokia (NYSE: NOK), and even mega-multinational defense contractors like General Dynamics (NYSE: GD), announced a pair of dilutive events -- one actual, one potential. Here's what they mean to you:

The actual
Firstly, management is offering 6 million shares in a "follow-on" stock offering (that's what you call a big flotation of a stock that's already had its IPO), along with another possible 900,000 shares in overallotment options granted to the underwriters -- Bank of America (NYSE: BAC), Lehman Brothers (NYSE: LEH), CIBC, and Jefferies & Co. (NYSE: JEF).

So we're looking at a potential 6.9 million additional shares on the market. There could be fewer if, for example, the underwriters decide the stock's not reacting well to the offer (see Wednesday's closing price), or if the company does not itself create all of the shares.  

End result: At least 21% dilution to shares outstanding (at 6 million shares issued), and perhaps as much as 24% dilution (at 6.9 million shares issued).

The potential
But wait, there's more! Ceragon will be asking its shareholders to approve as much as a 110% potential dilution of its stock, as it raises the limit on issuable shares from 40 million to 60 million. That may look like "only" 50% dilution at first glance, but at last count, Ceragon had just less than 28.5 million shares issued and outstanding. Looks like management intends to put out a whole lot more.

Foolish takeaway
But is all this a good thing? Mr. Market clearly thinks not, selling off the shares by 15% after the news broke Wednesday. In fact, though, it's still too early to tell.

Reviewing Ceragon's F-3 filing with the SEC, it appears that the company has not yet priced its shares. So we don't know whether the actual dilution will be worth its weight in cash (or not). As for Ceragon heading toward 60 million shares outstanding, here we're in the dark on the purpose. If we're talking millions of stock options for company insiders, well, that would be bad. On the other hand, if Ceragon is arming itself to take over some undervalued target company, the dilution that shareholders would endure in the process might be worth it.

So it really boils down to two words: Price and purpose. Until we know more about both, it's impossible to say whether Ceragon's news was bad enough to justify yesterday's sell-off.