CHKP: Buy the Market's Overreaction

NEW YORK ( TheStreet) -- It never ceases to amaze me to see just how inconsistent investors really are when it comes to either offering a standing ovation or applying punishment to stocks based on their earnings results. It seems lately that Wall Street has an unspoken set of standards applied to some stocks that are not required for others.

Embarrassingly, this is something (although not new) that I probably will never get use to: how does one conduct comparable or relative analysis based on factors that may or may not matter to analysts? Sometimes this can be catastrophic for investors.

Some stocks can get away with reporting results that were considered "less bad" while others get hammered for missing the slightest of expectations -- even to the upside. Remarkably this happens consistently with companies that are within the same sector. Fairly or unfairly, this is where enterprise security company Check Point Software ( CHKP) finds itself after a post-earnings selloff that saw the stock plummet to new 52-week lows, whereas rival Juniper ( JNPR) saw its stock rise after posting results that were merely "not as bad as expected."

Double-Checking the First-Quarter

For the period ending in March, the company reported earnings of $143.6 million, or 68 cents per share -- topping the $122.1 million, or 57 cents per share it reported in the same period a year earlier. Adjusted earnings excluding stock compensation expenses and other items arrived at 74 cents a share, while analysts polled by FactSet were expecting earnings of 72 cents a share. Revenue grew 11% to $313.1 million from $281.3 million also topping analysts' expectations of $312.9 million.

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In terms of outlook, the company is expecting adjusted earnings to arrive in the range of 74 cents to 77 cents per share -- in line with analysts' expectations of 76 cents per share -- on revenue of $324 to $336 million -- below analysts' forecast of $334.2 million. On the announcement, the stock gapped down almost 23% below the prior day's closing price.

However, I could never really see the reason for the selloff as the report was anything but terrible.

What concerned the market was what appeared to be slowing growth as product licensing increased by only 5% from the previous year after having grown 13% in 2011. And it didn't help matters that the company did not raise guidance.

But was the judgment justified?

Moving Forward

As noted, its results arrived much better than that of Juniper which reported an 87% decline in profits, yet its shares rallied. Whereas Check Point's operating income grew 22% on a GAAP basis while continuing to expand its operating margins. From that standpoint it even tops market-leader Cisco ( CSCO). However, what this tells me is that it all goes back to Wall Street expectations.

Investors should not ignore the buying opportunity that this presents as there is now clear underlying value -- particularly on a side-by-side comparison as shown in the table.

As the table shows, Check Point maintains a considerable amount of value relative to its peers and suggests that this selloff has been somewhat exaggerated. Not only is the company increasing margins at an impressive rate, but its operating margin is 63% higher than Fortinet ( FTNT), arguably its biggest competitor from the standpoint of focused security. For that matter, not only is Fortinet more expensive, but it doesn't measure up when comparing its ability to migrate from strict enterprise security to hardware services -- only Cisco and Juniper can compete in that area.

Looking at this chart tells me that investors have become concerned with the company's ability to maintain its growth. The selloff could have possibly been averted it Check Point had raised guidance, but that was not the case. The company's challenge now is to convince the market that this is not a trend that will prove to be anything other than some minor turbulence.

The company did a pretty good convincing job by announcing that it bought back 1.29 million shares in the quarter for approximately $75 million and added that it now has $3.12 billion in cash and investments -- an increase from $2.57 billion a year ago. But will it be enough for now?

Bottom Line

Taking the good with the bad is something that is always a requirement in the stock market -- particularly for tech stocks that tend to trade at higher valuations due to appreciably higher expectations. As competition within the sector continues to get more fierce with Dell ( DELL) having just entered the mix with its recent acquisition of SonicWall, the question is, what can Checkpoint do to affirm confidence in investors that it can keep up and adapt?

The company has a respectable track record that shows that it understands the growing needs of the enterprise and may just require some time to figure out its next move. But are investors willing to be patient? With the stock currently sitting 16% below its recent high, I see this as an opportunity to add these shares on weakness as fair-market value for the remains at $70.

At the time of publication, the author was long CSCO.

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