Dueling Fools: Nuance Bear Rebuttal

My Dueling Fool partner Billy paints a bright picture for the future of Nuance Communications (Nasdaq: NUAN  ) . Growth and revenue numbers look great, and we're left with the impression that these results will inevitably flow to the bottom line. This one's a no-brainer, right?

Maybe. Considring Nuance's estimated 25% long-term growth rate, the stock sure seems like a "back up the truck" kind of bargain, especially given its current valuation of about 25 times next year's earnings per share. Could there be a reason it's not trading higher?

For one, Nuance is still very early in its growth cycle, and speech software isn't nearly as ubiquitous in our lives as I expect it to be. Nuance has plenty of opportunities ahead for growth -- but so do countless other software companies. The Internet is bigger than Donald Trump's ego, yet Time Warner (NYSE: TWX  ) doesn't seem so thrilled with its past investment in AOL. And while a computer without a Web browser is nearly useless, when was the last time you used Netscape?

Second, achieving 20%-25% earnings-per-share growth while making acquisitions that are dilutive to existing shareholders means that the top line will need to grow even faster. If speech recognition really is tomorrow's "killer app," odds are that Nuance won't remain the top competitor in this field, especially while managing that kind of growth through acquisitions.

Ironically, one of the customers Billy mentions, AT&T (NYSE: T  ) , is also mentioned in Nuance's third-quarter report as a competitor in its speech segment. Juggernauts IBM (NYSE: IBM  ) , Philips (NYSE: PHG  ) , Cisco (Nasdaq: CSCO  ) , and Nortel (NYSE: NT  ) are also specified as potential competitors.

Even Nuance's third-quarter report states under "Risk Factors" that "quarter to quarter comparisons ... are not necessarily meaningful or an accurate indicator of our future performance." The recent numbers look good on paper, but a sober analysis wouldn't extrapolate long-term trends from a few months or even a year's worth of results.

All that said, Nuance may indeed prove its mettle in the long run, but that's a speculative bet at best -- in other words, more a gamble than an investment.

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