Daily Archives: July 12, 2006

Secure Computing Pins Hopes on CipherTrust Acquisition

Secure Computing announced yesterday afternoon its acquisition of CipherTrust, a leading vendor in messaging security, for approximately $273.6m in cash and stock. Given the stock component of the deal, the transaction might be worth considerably less than that by the time it closes on September 8, because Secure Computing also announced yesterday that it would not meet its earnings estimates for the quarter ended June 30. Secure Computing said it expects to make 5 or 6 cents a share, excluding unusual items, on revenue of $38.5 million to $39 million, while the analyst consensus was for an 11-cent profit on sales of $44 million.

Secure Computing has a grand strategy of becoming a tiny titan in enterprise gateway security, and it has pursued acquisitions as a means of meeting its ambitions. Last year, the company announced the acquisition of CyberGuard, a firewall/VPN and content-filtering company, for approximately $295 million in cash and stock, partly financed with a $70-million investment by Warburg Pincus that manifested itself in convertible preferred stock and warrants. For a company with a market capitalization of just $436.76 million, Secure Computing has made two substantive acquisitions in the past year that easily exceed half-a-billion dollars in total cost. Secure Computing doesn’t have the cash mountains of the larger players in the industry, so it is having to swap and surrender equity to get these deals done. If these deals don’t work, Secure Computing is in big trouble financially.

All of which bring us back to the company’s disappointing financial performance in its second quarter. Investors wanted to know whether difficulty in integrating the CyberGuard acquisition was partly to blame for the shortfall. The company denied that CyberGuard or its performance was a factor, but it didn’t provide clarity on exactly what happened. Considering the circumstances, it is incumbent on Secure Computing to provide more detail on what derailed its performance in the quarter past.

Meanwhile, the acquisition of CipherTrust will involve $185 million in cash, 10 million shares of Secure Computing common stock, and a $10-million seller note subject to performance. At the close of the deal, CipherTrust shareholders will have an approximately 14% ownership position in Secure Computing. As part of the transaction, Secure Computing will receive a $115-million term loan from Citigroup and $20 million in revolving credit.

That’s a big hut for Secure Computing to take, so it must desperately have wanted CipherTrust. It clearly believes that CipherTrust’s network-perimenter messaging-security appliances are a perfect complement to its strategic objectives at the enterprise gateway. It is forecasting that CipherTrust will add $15 million to $20 million in revenue this fiscal year and $80 million in 2007.

Unfortunately, Secure Computing has issued inaccurate guidance in the past, and it might have gotten wrong again with CipherTrust, which competes in a tough space against rivals that include Symantec, IronPort, McAfee, Trend Micro, Proofpoint, and scores of others, big and small. It’s far from certain that CipherTrust will continue to compete effectively and win its fair share of deals. As such, the underlying assumptions and basic math that Secure Computing used to extrapolate future CipherTrust revenues are suspect. At the end of the day, it all comes down to execution. That execution might not go as well as Secure Computing plans, what with increased competition in its core markets and the enormous strain of successfully digesting and integrating two ambitious acquisitions in less than a year.

Anything can happen, of course, and it’s possible Secure Computing’s master plan is a good one and that the company can and will execute effectively to bring it to fruition. It doesn’t look or feel that way at the moment, though. Customers, partners, investors, and other stakeholders should all be healthily skeptical until the company begins showing that its high-stakes gambles are paying off.