Storage Sector Follows Brocade Lower

Brocade Communications BRCD fell 7% Thursday, dragging other storage stocks down with it after issuing disappointing guidance for the second quarter amid weak demand and increased competition.

The network storage provider said it was "comfortable" with the consensus earnings estimate of 6 cents a share for the quarter on revenue of about $127.9 million. But analysts noted that the forecast represents only 4% sequential revenue growth, which is weaker than the 5.6% growth posted in the first quarter.

"Despite a solid quarter and two new product introductions, Brocade guided for minimal quarter-over-quarter growth, and therefore we remain cautious," Lehman Brothers analyst Harry Blount wrote in a research note.

For the first quarter, Brocade reported earnings of 5 cents a share, down from 13 cents last year. Revenue came in at $123.1 million, down from the year-ago total of $165 million. Analysts polled by Thomson Financial/First Call had expected the company to earn 5 cents a share on sales of $118.8 million.

Analysts said Brocade's cautiousness seemed to originate from the continuing lack of visibility for IT spending. Other storage-sector companies, and technology companies in general, have expressed similar concerns for months.

"We believe that at this early stage of 2002, the company gains little by being overly optimistic," Deutsche Bank analyst Sabrina Ricci wrote in a research note. "Further, we contend that management can certainly revisit guidance once the environment becomes more stable and the demand picture becomes clearer."

One of the biggest challenges facing Brocade right now is growing competition. Brocade has an impressive installed base, but other players are gaining share in the switching market, Ricci indicated.

"Consequently, in our view, pricing trends are also very important," she wrote. "Thus far, Brocade's margins have been unharmed by pricing declines, but we nonetheless continue to be cautious looking further ahead."

Meanwhile, the company is facing a tough transition from a one-gigabit data transfer technology to a two-gigabit offering. Brocade said the new SilkWorm 12000 product, which uses the speedier technology, will begin shipping by the end of the current calendar quarter. "The transition seems to be going well, but there's some uncertainty regarding the high-end product," said Brent Bracelin, an analyst at Pacific Crest Securities.

In addition, analysts said that since the stock has climbed about 148% since Oct. 1, Brocade isn't cheap anymore. The shares currently trade at 115 times forward earnings.

"A lot of people had lofty growth expectations built into the stock so they had to take them down," said A.G. Edwards analyst Shebly Seyrafi.

Brocade fell to $32.64 Thursday. Other stocks in the group were also lower, with QLogic QLGC dropping 4.9% to $47.04, McData MCDT losing 9.7% to $22.50, Emulex EMLX down 6.8% to $40.07 and EMC EMC giving back 4.1% to $13.90. JNI JNIC was lower by 3.8% to $7.56.