Cognos (NASDAQ:COGN), a developer of business-intelligence software, has had a nice rally since its earnings report in late September. The stock has gone from $35.11 to $40.97 -- and this is after a 10% surge on the earnings announcement. Investors, however, should still be wary, since part of the buying appears to have been based on takeover speculation.

In its fiscal third quarter, Cognos posted a 17% increase in revenues to $247.8 million. During this period, net income fell from $24 million, or $0.26 per share, to $16.5 million, or $0.18 per share. The company has recently taken restructuring charges to boost margins.

Clearly, the company is showing strength in getting new license revenues, which is crucial since it generally leads to ongoing maintenance and services fees. In the third quarter, there was a 24% boost in license revenue to $94 million.

Then again, Cognos has a strong product offering in the business-intelligence space. Basically, Cognos' software helps companies improve the analysis of their databases, customer relationship management systems, and enterprise resource planning applications. It can help answer questions such as: How is the company doing? Where are the problems? And what are the recommended actions to improve things?

Cognos is in the midst of a major product release, Cognos 8. In fact, the company is going to add more features to the system next year. For example, a promising new extension is Go! Mobile, which allows Cognos customers to use business-intelligence software with mobile devices such as Research In Motion's (NASDAQ:RIMM) BlackBerry.

Cognos is also getting a good deal of traction with key partners, including IBM (NYSE:IBM) and (NYSE:CRM).

As a result, guidance is strong for the fiscal fourth quarter. Revenues are forecasted at $270 million to $280 million, with earnings per share of $0.54 to $0.60 per share.

True, management is confident in its customer pipeline, which should help boost growth into 2007. However, the stock is not cheap. After all, the enterprise value-to-sales ratio is 3.2, and the EV-to-EBITDA (earnings before interest, taxes, depreciation, and amortization) ratio is a nosebleed 19, compared with mean valuations in the software industry of 1.8 times revenues and 14.9 in EV-to-EBITDA.

Interestingly enough, it looks as though buyout rumors have increased the valuation of the stock -- this is common with a variety of software companies. The theory is that Oracle (NASDAQ:ORCL) or Hewlett-Packard (NYSE:HPQ) could use a stronger business-intelligence capability.

But this is mere speculation. If a deal does not happen -- which is a good bet in light of the pricey valuation -- there is definitely risk in the stock price.

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Fool contributor Tom Taulli does not own shares mentioned in this article. He is currently ranked 834 out of more than 18,000 participants in Motley Fool CAPS, the Fool's stock-rating community that's open to everyone.