Software Companies May Rethink When to Warn

They may decide not to warn if earnings miss guidance but come close to lowered estimates.
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Software names soared Wednesday after the profit warnings that analysts were expecting didn't materialize.

But observers say no news might not necessarily be good news this time around, as companies debate what actually constitutes a miss in Wall Street's eyes. Take

Siebel Systems

(SEBL)

. The customer relationship management software shop, which pasted investors with tens of press releases but little real news from its user conference in Chicago this week, was up more than 14% in midday trading.

Siebel has been on Wall Street's most-wanted list of suspected warners lately. Still, three business days after the end of its third quarter, the company hasn't made a peep about coming in low.

The story was the same at

i2 Technologies

(ITWO)

, which was up as much as 53% Wednesday morning. The company, which recently named a new CEO and was expected to write off its third quarter after business ground to a halt in the wake of the terrorist attacks last month, was lately up $1.09, or 32%, at $4.48.

While a lack of warnings was helping lift some stocks, software firms that have warned were also basking in a sunny glow of Wednesday's rising prices.

Interwoven

(IWOV)

, which makes software to manage Web sites, was up 43%, or $1.81, at $6.02. The company warned of a wider-than-expected loss for the third quarter Tuesday night. But reports from brokerage Merrill Lynch of a $12 million to $15 million deal with

IBM

were helping drive the shares.

Analysts and investors sounded a note of caution given the dramatic rise in software shares, though.

While companies usually preannounce negative results if business comes in below their previous guidance to Wall Street, analysts say some fuzzy math is emerging on what constitutes a miss this quarter. For example, if a company is set to post numbers that are below its previous guidance, but in line or near analysts' lowered estimates, it might not think it has to warn.

"There's a gray line that's on the margin, where people are saying they do not think a miss constitutes a preannouncement if the Street has already brought down numbers significantly," says Michael Beckwith, an analyst at Robertson Stephens who covers software infrastructure stocks. "But no one's going to say the distinction of that line is crisp."

Especially problematic for software companies is the fact that many close the majority of their business in the last weeks of a quarter. With the Sept. 11 attacks stifling business for the last three weeks of September -- the last three weeks of the third quarter -- investors have been expecting the worst for a while.

Bill Schaff, who owns

Oracle

(ORCL) - Get Report

, Siebel and Interwoven in the

(BINVX)

Berger Information Technology mutual fund, says firms also might not be prone to preannouncing because everyone on Wall Street already assumes results from the September quarter will be dismal.

"Software is goofy business," Schaff says. "Some companies report early and preannounce, others just announce. Now, it's so close to reporting time anyway, unless you already preannounced, at this point you just wait for the earnings announcement. Most of them will attribute their disappointments to Sept. 11 and the lack of sales in the rest of September. And that's no surprise to anyone."

Schaff also points out that the shares of software companies have been hit particularly hard, and thus are rallying today because investors realize "they're not going to zero." Traders are also likely taking advantage of Wednesday's momentum. The big move in i2 Technologies, for instance, was off a closing price Tuesday of $3.39. The stock's 52-week high? $96.13.

"When these things start popping, you've got people going in intraday as well," Schaff says. "It doesn't take much volume to move these things now. A dollar move in a five-buck stock is a big move. But it wasn't when they were trading at $100."

What all this adds up to, Schaff says, is a further selloff in coming days or weeks as software firms do go into earnings season the third week in October.

"I think they go down again," Schaff says. "You sort of know that, too. I wish I could say something different, but the reality isn't there. You'll get a bit of a recovery bounce, but it's unsustainable given the current environment."