Downgrade Debate at Internet Security

Shares of Internet Security Systems(ISSX Quote) sank Tuesday after an analyst downgraded the stock to a sell rating, citing more intense competition in the intrusion-detection market and customer dissatisfaction.

The downgrade brought a heated rebuttal from the company's CEO, who claimed the note was laden with inaccuracies.

ISSX shares fell as much as 8.2% Tuesday before closing down 70 cents, or 5.5%, at $12.09. Shares were at $12.06 in after-hours trading.

Tuesday morning Fulcrum Global Partners analyst Alan Weinfeld lowered his rating on ISSX to sell from neutral for the second time this year. Weinfeld noted that the intrusion-detection market once dominated by ISSX has attracted at least a dozen public and private vendors in the last two years.

Until 2002, Weinfeld wrote, most other intrusion-detection systems were not fast enough or generated too many false positives to compete with ISSX. But emerging competition from private companies such as Lancope and Intruvert Networks, bought by Network Associates (NET Quote), surpassed the functionality of ISSX's latest product, released in July, while larger rivals such as Cisco Systems(CSCO Quote) and Symantec(SYMC Quote) can use their resources to eat away at ISSX's market share.

Weinfeld wrote that the company's "recognized licensed-software intrusion-detection business has not grown in the last seven quarters." Seven quarters ago, the fourth quarter of 2001, ISSX posted $30.7 million in license revenue, while in its latest quarter, the second quarter of 2003, the company's license revenue rang in at $24.3 million.

"We think the best way to participate in the growth in intrusion detection is as part of a larger enterprise security offering in companies such as Symantec and Network Associates," advised Weinfeld in his note. He has buy ratings on both Symantec and Network Associates. His firm does not do investment banking and he does not own any shares of Symantec, Network Associates or ISSX.

However, in an interview Tuesday, ISSX CEO Tom Noonan said the company has been competing against Cisco since the company entered the market through an acquisition in 1997. Despite those six years of competition, Noonan said, research firm IDC still shows ISSX's market share at double that of Cisco.