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China Sky Sinks; Brocade Gets Pop

Shares of China Sky One Medical fell sharply in extended trades after the company cut its financial outlook, while Brocade shares edged higher.

Updated to reflect Global Hunter Securities has dropped coverage of China Sky One Medical.



) -- Shares of

China Sky One Medical


were plunging in afterhours action late Friday after the Chinese drug developer lowered its outlook for the rest of the year, citing the loss of a number of distribution partners.

The problem could be significant for the company, which also announced the resignation of its CFO Stanley Hao who had been on a leave of absence for health reasons since July. The distributors severed their relationships with China Sky because the company's disclosure of their business information in its filings with the

Securities and Exchange Commission

had supposedly led to "increased scrutiny of their financial performance by government authorities within China."

While China Sky contended the problem would be temporary, the news raises questions about the company's ability to effectively sell its products, mainly over-the-counter drugs including a camphor cream and an acne prevention ointment, in China as other distributors could balk as well.

The company had booked total revenue of $70 million for the first six months of the year. On its Web site, China Sky says its distribution network in China covers 22 provinces and 125 municipalities, but it also exports products to more than 20 countries, including the U.S. and Germany.

The stock was tumbling 28% to $7 in extended trading, according to

, making it the biggest percentage decliner after the bell. Volume of 170,000 was significant for the shares, whose daily churn is typically less than 160,000 in a regular session. Year-to-date, the stock is down about 58%.

China Sky said it now expects adjusted earnings of $26 million to $31 million in fiscal 2010 on revenue of between $128 million and $136 million. Its prior outlook was for a profit, excluding the impact of derivative warrant liabilities, of $40 million to $41 million on revenue ranging from $160 million to $164 million.

"We are disappointed with the decision by several of our larger distributors to end their cooperation with China Sky One," said Yan-Qing Liu, the company's chairman and CEO, in a statement. "We expect to recoup this lost business over time by building new relationships with reputable provincial and national distributors."

The company reported its second-quarter results on August 10, posting an adjusted profit of $10.2 million, or 60 cents a share, on revenue of $40.8 million. The results were well ahead of Wall Street expectations for earnings of 53 cents a share on revenue of $37.3 million, although China Sky was covered by only two analysts at the time.

Global Hunter Securities discontinued coverage of the company on Thursday, but the firm anticipated the potential for China Sky to face problems renewing deals with certain distributors in an August 31 research note where it lowered its price target to $15 from $20 and made deep cuts to its estimates for the full year.

China Sky's decision to postpone updating its fiscal 2010 outlook when it reported second-quarter numbers because of the distributor negotiations raised a red flag for Global Hunter, which lowered its 2010 estimate for the company to adjusted earnings of $32 million to $36.4 million on revenue of $132 million to $160 million at that time.

"We are concerned that the negotiations may not necessarily end with favorable terms for CSKI," the firm said in the August 31 note, adding: "

And we expect its Slim Patch and Diagnostic kit sales to remain soft in the near term."

Global Hunter estimated at the time that the distributors China Sky was haggling with then represented about 20% of its revenue.

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Another big mover in extended trading ahead of the Labor Day weekend was

Brocade Communications


, which was up 1.6% to $5.70 on volume of 183,876. The stock was heavily traded in Friday's regular session with 18.4 million shares changing hands, much higher than its trailing three-month daily average of 11.5 million.

Although Brocade is down about 27% so far in 2010, the shares have rallied of late, advancing in six straight sessions to go from a finish at $4.76 on August 26 to Friday's regular close at $5.61, a rise of 18%. At least some of the buying seems to have been spurred on by speculation the maker of data storage equipment could end up in play following the bidding war for competitor


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That battle was ultimately resolved when


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once and for all with a mammoth $33 a share bid that values 3PAR at $2.4 billion, or more than 121 times its forward earnings for the fiscal year ending in March 2012.

For its part, Brocade is currently trading with at a forward price-to-earning ratio of less than 10 times its estimated profit for the fiscal year ending in October 2011.


Written by Michael Baron in New York.

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