Fool.com: Sterling Looks to Shine Investors with Stock Buyback (News) September 3, 1999

Sterling Making the E-Commerce Push

By Richard McCaffery (TMF Gibson)
September 3, 1999

Shares of Sterling Software (NYSE: SSW) lost less than $1 after the company warned that it expects fourth quarter 1999 earnings around $0.47 per share (before acquisition-related charges), about $0.05 below the First Call mean estimate. If amortization charges for intangibles related to acquisitions are excluded, however, the company expects earnings of about $0.53 per share.

Officials at the Dallas-based application development and management firm said the shortfall is largely the result of its recent $168 million cash acquisition of Information Advantage Inc., a company that makes business intelligence software. Information Advantage develops, for example, products that create Web-based portals allowing employees to search their company's intranet the same way Yahoo! (Nasdaq: YHOO) allows users to surf the Internet.

Sterling has been an acquisitive sort of animal, buying 35 companies since its founding in 1983. This perhaps explains why the stock reacted quietly to the news, since the acquisition-related shortfall will be excused as non-operational. In addition, the company has been a steady performer. The third quarter (ended June 30) marked the 43rd consecutive period the company has grown revenue and earnings per share.

Sterling officials also said, however, that a realignment of the company's application development business to focus on e-commerce activities is contributing to the shortfall. In the coming weeks, Sterling plans to introduce e-commerce tools and support services to take advantage of the business-to-business commerce boom.

This bears watching since the company makes it sound easier than it is. Every cat in the alley is offering e-commerce products these days, so investors might want to wait and see what kind of momentum the company creates in this arena, as well as what effect it has on its application management division, which generated 51% of revenue last year.

Finally, Sterling offered investors a spoonful of sugar to go along with the earnings warning. The company announced a plan to purchase up to 5 million shares of common stock, or 6% of its 84.3 million outstanding shares. This is good news since the company has increased its weighted average number of shares outstanding 25% since 1997.

For the most part, Sterling has run a tight ship. It has no long-term debt to speak of and net income has increased steadily. But its profit margins have slipped from 12.1% in 1996 to 10.6% in 1998, mostly as a result of reorganization costs associated with folding in acquisitions. It's not out of line to expect better margins from a software firm, even one that offers services that are more expensive to sell. Computer Associates (NYSE: CA), for example, which also makes systems management software, had profit margins of 11.9% for its fiscal 1999. Investors might want to wait for operational improvements and for the smoke to clear from some of its acquisitions before taking another look.

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