Disagreement May Mean Opportunity In Citrix Systems

By Stephen D. Simpson, CFA | April 30, 2012 AAA


It's not uncommon to find at least one or two contrarian analysts on a well-known tech company, but the environment around Citrix Systems (Nasdaq:CTXS) is more interesting than most. Simply put, there's a split between analysts who believe desktop virtualization and an all-around focus on cloud infrastructure will propel this into a major player, and those who believe desktop virtualization will never really take off and that competition in other markets will punish Citrix for its ambition. Where there's a split like that, there can often be both elevated risk and opportunity.

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A First Quarter with Some Interesting Moving Parts
Citrix reported 20% top-line growth, which was enough to beat the average estimate. License revenue rose 19% on a 17% increase in desktop license revenue, while the company also saw strong growth from NetScaler (up 46% year on year) and SaaS (up 21%). Bookings were also very solid at 24% growth.

Margins and profits were decidedly mixed. GAAP gross margin fell about two points on both a sequential and annual basis, while GAAP operating income was flat from last year and down substantially from the prior quarter. On a non-GAAP basis, though, performance was considerably stronger and the company's adjusted operating margin of 23.5% was comfortably above the average estimate of about 22%.

Readers can argue about the relative merits of GAAP/non-GAAP accounting for tech companies, but the fact remains that GAAP results seldom influence these stocks to the same extent.

SEE: What is the difference between IAS and GAAP?


Diversification Seems to Be Working
Citrix is not afraid to take on some rather large and successful companies in its quest to be a diversified cloud infrastructure company. Citrix is targeting part of the application delivery market with NetScaler, putting it up against Cisco (Nasdaq:CSCO) and F5 (Nasdaq:FFIV), but as the NetScaler revenue growth this quarter would suggest, business is going well. Likewise with the company's Branch Repeater products that compete against Cisco and Riverbed (Nasdaq:RVBD) in WAN optimization.

In server virtualization Citrix is still trailing VMware (NYSE:VMW) and I'm not sure that the company is really gaining ground here. In SaaS, though, the company seems to be more than holding its own against Cisco, Microsoft (Nasdaq:MSFT) and LogMeIn (Nasdaq:LOGM).

The Desktop Question
The biggest debate on Citrix, apart from whether rivals like Cisco, VMware and F5 will squash Citrix in their respective markets, is the real opportunity in desktop virtualization. Bulls say that this is simply part of the future of enterprise IT and that we're in the early years of what will be a wholesale adoption. Bears counter that it's a limited opportunity, where the low-hanging fruit is in the bag and that growth will soon decelerate.

As in most debates, the truth is probably in between. Just as there's no such thing as a truly paperless office, virtualization is not going to be everywhere. That said, there are a lot of potential advantages to large and/or decentralized corporations. Consequently, I think that the market is larger than the bears believe, but will take longer to penetrate than the bulls project.

SEE: A Primer On Investing In The Tech Industry


The Bottom Line
I'm so accustomed to cloud/SaaS/virtualization stories being ridiculously expensive that I almost don't trust my own valuation analysis on Citrix. As it so happens, while I expect a very rapid pace of growth, it may actually be the case that these shares are undervalued.

Projecting 15% compound free cash flow growth for the next decade seems extremely ambitious, but I'm projecting less revenue growth for Citrix than for VMware or F5, as well as lower free cash flow margins, and a higher discount rate. Yet, after all that, Citrix actually looks as though it may be the cheaper stock of the three. While I struggle with the notion that a stock trading at six times trailing revenue or 23 times trailing EBITDA could be "cheap," the debate on Citrix's potential may just mean that bulls have more room to run here.

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At the time of writing, Stephen Simpson did not own shares in any of the companies mentioned in this article.


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