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Cylink Hits the Big Time After Bumpy Times

What do you do when the business you deal in isn't very sexy, you're getting little to no attention from the Street and you've had to restructure your management in your first year of going public?

In the case of

Cylink

(CYLK)

, you ink a deal with two major computer giants to use your technology and you purchase a major Israeli company for millions of dollars. Then you let the investment world know as fast as you can.

And you start to see some results that could last beyond the publicity jump.

The Sunnyvale, Calif.-based network security company proudly touted the word last week that both

Microsoft

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and

Sun Microsystems

(SUNW) - Get Sunworks, Inc. Report

agreed to use Cylink's encryption technology for protecting online transactions in their next versions of their Internet software. On Monday, the firm announced that it will purchase Israel-based

Algorithmic Research

, a data security company, for $82.7 million.

"The company hit its 15 minutes of fame without expecting it," says Paul Merenbloom, an analyst with

TheStreet Recommends

Prudential Securities

, which does not do any underwriting for the company.

The stock soared on word of the Microsoft and Sun news, as nearly 5 million shares traded that day, up from the 30-day average of 100,000 shares. Upon news of the Algorithmic acquisition Monday, the stock shot up another 28% to hit a 52-week high of 15 7/8, on volume of more than 1.25 million shares. The stock was trading at 14 1/16 on Thursday.

"For years the company was doing a very unglamorous business, which was securing communication between big banks and telephone companies. Its recent announcement has put it up on everyone's radar," says Bill Burnham, an analyst with

Piper Jaffray

, who holds a buy rating on Cylink. (Piper does not do underwriting for the company.) He says the company is the third largest in its field based on market cap and second largest based on revenue.

In the second quarter, Cylink beat analyst estimates by a penny, coming in at 5 cents per share, up from 1 cent in the same quarter a year earlier.

First Call

consensus calls for 5 cents in the third quarter, ending September. For the full year, First Call estimates earnings per share of 20 cents.

One Cylink fan has been the

American Funds

, whose

(SMCWX) - Get American Funds SMALLCAP World A Report

Smallcap World fund holds 4.3% of the company's outstanding stock, according to the most recent data from

Technimetrics

. American confirmed that the $8.15 billion fund held 1,115,000 shares of Cylink as of the end of March, after adding 400,000 shares during that quarter.

But times weren't always this good. The stock has endured a rocky roller coaster ride since its February 1996 IPO, when it debuted at 28 3/4. Since then it has gone up and down, up and down, hitting an all-time low of 6 5/8 earlier this year.

Partly to blame are the high expectations put on the firm when it first came public. But poor management and unrealistic goals caused investor nervousness and sent the stock on a downward spiral. Last fall, the company had a management shake-up and replaced all the top dogs, including its CEO.

"The new management put in place a solid plan for growing the business -- one that could realistically meet investor expectations," says Burnham, whose new near-term target is 15 1/2, a figure he raised Tuesday based on the recent announcements.

"Their stock is also indicative of the whole security sector. It's very volatile. If you look at a chart of the industry, it looks like the Swiss Alps -- it's all over the place, up and down," he adds. "People have spent a lot of time looking at what companies have the technology and a viable business and which are just smoke and mirrors. And it's increasingly looking like Cylink is the real thing."

While neither the Microsoft or Sun deals are particularly significant from a monetary standpoint (they aren't likely to generate ongoing revenue for the firm, because the Internet software is distributed for free), they were important for increasing Cylink's market visibility.

And, of course, it never hurts to be aligned with the most popular kids on the block either. "It's like being asked to dance by the prettiest girl in school," jokes Burnham. "It gave them credibility."

Perhaps the biggest problem Cylink faces, though, before winning back Wall Street is deciding what to do with its wireless division, which accounts for 40% of its business.

"They have to decide whether to hang on to it for a while, or shut it down," says Prudential's Merenbloom. "They're two very diverse business models under one roof and it's causing them a problem. It's not a new problem, but it's becoming a large one. This is where my biggest concern lies. They have to decide where their core competency lies and to maximize it," he says.

"When they were doing the IPO, what they sold was an encryption business. This wireless thing doesn't make sense," he says. "It doesn't fit in with what the new management has been setting up. It's not a bad business, it's just incongruent to its core business."

But most analysts who follow the firm believe that Cylink is on the right road to secure its future.

"Cylink used to be stealthiest company around; now, it's building a healthy profile," says Merenbloom. "They want the world to know that encryption is an important part of electronic commerce."

Adds Arthur Newman of

Gerard Klauer Mattison

(which has not done any underwriting for the company), "We originally lowered our rating several months back, because they were investing money into R&D and other key areas," laying the groundwork but not hitting the home runs. "But clearly, with these deals, they are improving their position in the market. There is going to be a major shake-up in this sector and only a few will come out of it. I think the company is taking the necessary measures to make sure they are a long-term survivor."