NetIQ, Why Are You (So High)?

Shares of the Windows NT enhancement-software firm remain high, even after Microsoft warns.
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It's strange how selective this market can be. While many of the Big Tech names -- Microsoft (MSFT) - Get Report, Cisco (CSCO) - Get Report and Nortel (NT) -- have been crashing, a little outfit called NetIQ Corporation (NTIQ) remains in the stratosphere. Sure, the shares are off 23% from their mid-December highs, but its valuation remains lofty, even as the Nazzdog is sinking faster than Al Gore's political career.

Flying With a Net
NetIQ still flying high

Well, NetIQ is a "leading provider of Windows NT-based applications management software." To put it in layman's terms, NetIQ is a company whose products regulate, monitor and optimize the performance and availability of Windows NT-based systems and applications. Does that sound a warning bell yet? It should!

Mighty Microsoft issued a first-time-in-a-decade warning

last week that it would miss estimates, not only for this quarter but also for the next two quarters in 2001. Mr. Softee added that it was seeing a

global

slowdown in IT spending, and as a result was guiding estimates downward for this quarter and the next two quarters as well. So how does that bode for NetIQ? Not very well, I am afraid.

There is no doubt that NetIQ has a killer suite of products. In October 2000, Microsoft ended up essentially buying (via a licensing deal ) NetIQ's Operations Manager product in exchange for roughly $175 million, plus exclusive rights for future enhancements to the core platform, and a co-marketing agreement for three years going forward. A nice endorsement, indeed.

There is also no doubt that NetIQ has grown its revenue at a very impressive clip the last few quarters. The company, which came public in July 1999, was originally estimated by analysts to record revenue for the fiscal year ended June 30, 2000, of $32.5 million. But NetIQ posted actual revenue of $99.8 million that year, beating original revenue estimates by over 200% -- and made money to boot. For the year ending June 30, 2001, analysts expect the company to increase its revenue to approximately $165 million with earnings estimates in the $0.78-$0.82 per-share range.

However, the fact still remains that NetIQ is not a cheap stock by any means. With its chief source of revenue, Microsoft, seeing a global slowdown across all primary product lines, things can not look all that rosy for NetIQ. NetIQ is currently valued at 44.3 times trailing 12-month (TTM) sales compared to 11.4 times TTM for

AOL

(AOL)

, 9.3 times for Microsoft, 12.4 times for Cisco and only 3.3 times TTM for Nortel.

So, what is NetIQ's secret sauce? It's actually quite simple. There are 39.3 million shares outstanding, as of Sept. 30, out of which 30% are held by insiders, and almost all the rest of the balance is held by institutional shareholders.

This leaves very little available to individual investors. As a result, this stock is very hard to borrow for shorting and is also very volatile, especially on the upside. Nevertheless, short interest as per last month's data almost doubled to 600,000 shares from a short position of 232,000 shares as of the previous month.

Because the stock is hard to borrow, buying a few

put options could prove to be a rather profitable strategy. This is a company that remains high even when Microsoft -- which according to analysts covering NetIQ will account for almost 31% of NetIQ's estimated revenue of $276 million for fiscal year ending June 30, 2002 -- is faltering. In NetIQ's case, I am betting that what is

not

good for the goose

cannot

be good for the gander.

Jay M. Somaney is the portfolio manager of the TSG Tech Fund, a hedge fund focused on the shares of companies involved in the Internet and related technology. At the time of publication, the TSG Tech Fund was long AOL Call Options, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Somaney appreciates your feedback and invites you to send any to

jsomaney@tejassec.com.