Palm (NASDAQ:PALM) can't seem to catch a break.

Reporting first-quarter results last night after the bell, the one-time smartphone pioneer said that non-GAAP net income fell 57% to $0.09 a share, a penny ahead of Wall Street's forecast. Revenue, meanwhile, inched upward by around 1%, to $360.8 million.

Pretty bad, eh? Sure, but what seems to have irked investors, who sold off the stock by 4% in early trading today, are Palm's projections. The company says that second-quarter adjusted earnings will range between $0.06 and $0.08, and that revenue will come in between $370 million and $380 million. Wall Street was expecting much more, and it plugged its nose upon getting a whiff of the news, as if lower Manhattan's sewers had overflowed.

Frankly, I'd be more upset over the cash flow situation. Palm's free cash flow fell from $13.8 million a year ago to $11.5 million in the latest quarter, making its "beat" on the bottom line seem to be pyrrhic, at best.

A look at the gross margin confirms the sacrifice. Gross margin slid to 36.3% from 36.9% last year and 38.2% in the fourth quarter.

Rebates and discounts are partly to blame. Witness the new Centro smartphone -- think of it as "Treo Lite" -- which will sharply undercut similar offerings from rivals. Here's how Chief Financial Officer Andrew Brown explained it during yesterday's conference call:

We've decided to be, quite frankly, more aggressive on pricing, as you can see. The Centro is coming out of the chute at $99 and part of that is us trying to drive our position in the marketplace. We think that's the right thing to do right now for the company.


Price cuts are only the "right thing to do" when there's no other competitive weapon in sight. It's the blunt instrument that, too often, blunts returns. By resorting to it, management is admitting that it's having trouble competing with Apple (NASDAQ:AAPL), Nokia (NYSE:NOK), and Research In Motion (NASDAQ:RIMM).

Keep Palm out of your hands, Fool.

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