Shares of educational software maker Blackboard (NASDAQ:BBBB) plunged in after-hours trading yesterday, down 8% at last count, despite reporting earnings that exceeded expectations for both sales and profits. The culprit, it seems, was not so much what Blackboard did as what it promised to do in the quarter currently in progress.

What Blackboard did
Comparing this year's Q2 to last year's:

  • Sales grew 36% to $59.4 million.
  • Last year's net loss became a $0.12-per-share profit this year. (Blackboard did indeed remain in the "Promised Land" of GAAP profitability.)
  • Pro forma profits amounted to $0.23 per share.
  • Blackboard signed up a whole host of school systems across the country to use its software, from Washington and California in the West, to New York and Virginia in the East, to Japan in the Far East.

What it promised
So why is the stock price down? According to AP reports, Blackboard's Q3 guidance was "slightly below Wall Street expectations." But I suspect there's another reason: The analysts' guesses aside, Blackboard itself is promising a significant slowdown in sales growth. At the top end of its projections, the company expects its sales to rise 21% next quarter, and 29% for the full year. Strong numbers in and of themselves -- but far short of last quarter's 36%.

Profits-wise, management estimates full-year earnings per share at $0.39 to $0.43. That's up from the firm's recent prediction of $0.40, but still leaves it with a current P/E in the triple digits -- pretty pricey for a growth company whose expansion appears to be slowing.

Cash profits
Still, companies with high P/E ratios -- or, as fellow Fool Tim Beyers recently observed in relation to Secure Computing (NASDAQ:SCUR), even negative P/E ratios -- sometimes produce cash profits, a.k.a. free cash flow, in excess of their reported earnings. Might this be the case with Blackboard, and might it justify the firm's price?

Perhaps, and this has to be the hope on which investors hang their Foolish jester caps. The first half of the fiscal year is always Blackboard's weakest for cash profits. Yet the firm has generated $1.4 million in positive cash from operations so far this year (quite a reversal from last year's negative $13.9 million). Granted, free cash flow played hooky, as $7.1 million in capital spending devoured all the cash from operations and then some. But if the second half of this year proves as strong as usual for cash generation, Blackboard could still grow into its valuation -- even if it does grow a bit less frenetically than in quarters past.

Blackboard is a Motley Fool Hidden Gems pick. Discover more stellar small-cap stocks from Tom Gardner and Bill Mann with a free 30-day trial subscription.

Fool contributor Rich Smith does not own shares of either company named above. The Fool's disclosure policy would be happy to clean the erasers.