Nuance Communications Gets A Wake-Up Call From Carl Icahn

In investing circles, some things need little introduction. Take Nuance Communications (NUAN). Nuance is synonymous with voice recognition, and their technology is held in high regard worldwide. Mainstream investors became aware of the company a few years ago when their science was the backbone of Apple's (AAPL) Siri platform on the iPhone. When anything Apple was in vogue, Nuance shot up to $31, but has since fallen on hard times, and crosses the tape at $19.

In a nutshell, Nuance is in a transition period. From desktop to mobile computing, and from just plain old software to software as a service, or a subscription based model. Q1 was terrible. Q2 was like a sequel to a horror movie. In Q2's prepared remarks issued by the company, next quarter's revenue will be $480-$495 million and earnings per share are projected to be $0.30-$0.34. This is below a consensus of $554 million in revenues and EPS of $0.49. Full year guidance also missed. Some of the blame was on poor execution in the sales department.

For the second time in three months, the stock dropped from the mid $20's, to the high teens, and some investors took notice. Most notably, billionaire financier Carl Icahn who previously had accumulated a 9.3% stake in the company. After the conference call, it was disclosed he increased his holdings to 10.7%. Like Nuance, Mr. Icahn needs no introduction to those that follow the market. Whether it's televised battles with Bill Ackman over Herbalife (HLF), or the killing Mr. Icahn made on Netflix (NFLX), Mr. Icahn is a financial celebrity.

One thing that is consistent with Icahn is that he's not in this for the consolation prize. He puts himself in a position to win. Many investors believe the atmosphere is poisoned for Nuance. It's a lost cause. I feel this is short sighted, and with the "passive" investment Icahn took in Nuance, he's giving the company a stay of execution. After all, the pressure Icahn can put on a company is the stuff of legend, even though he has not stated what his involvement will be with the speech recognition entity.

Even with the increased holdings for Icahn, if we do get an overall market correction, Nuance shares may go lower, but they seem to be forming a base in the current market melt-up. I prefer to bottom fish in good solid companies that hit speed bumps. This is why I took a position in Nuance at $19. However, the company may be stuck in neutral for the next few months, especially if comments during the conference call are any indication.

In playing Devil's Advocate as a shareholder in Nuance, let's look at some of the less that stellar statements that management published just three short weeks ago that caused the sell-off:

• Concerning the Healthcare Division: "Although recent acquisitions contributed to revenue growth, in some cases the contribution was below our expectations.".
• In the Mobile & Consumer segment: "We experienced delays in revenues due to consolidation in the smartphone market, our increased focus on pricing and delayed royalty reports.".
• In Enterprise: "We have recently under-performed in our enterprise on-premise license business and we expect that business to continue to face challenges.".
• For the overall company: "In the second half of FY 13, we expect a continuation of the current market trends, and we expect that improvement in sales execution and acquisition performance issues will take some period of time.".

Management believes that it will take until 2014 to show a resumption of organic growth. That Fiscal Year 2014 organic growth will be in the mid to upper-single digit range. So we're not talking about hyper-growth for at least two years, if at all. To increase shareholder value, the company has authorized the repurchase of up to $500 million of its outstanding shares subject to market conditions. A share buy-back is standard operating procedure for companies that have fallen out of favor.

However, you usually do a buy-back when the company is selling for a discounted price. With a current P/E Ratio of 40, this is still an expensive stock. This makes me wonder what Mr. Icahn has paid for his stake. If it's over $19, he may not exercise patience for very long. The annual Nuance Communications' shareholder meeting next January could prove very interesting.

In late April, The Wall Street Journal speculated that Nuance had hired Goldman Sachs (GS) for advice concerning Mr. Icahn. According to the article:

"Activist shareholders such as Mr. Icahn have become a major force for change in corporate America in recent years, frequently taking big stakes and pushing for improvement at underperforming companies. They have become so ubiquitous, bankers say, that in many cases companies make strategic changes preemptively when they fear they are an activist target.".

In the Q&A session during the most recent conference call, Daniel Ives from FBR Capital Markets directly asked Nuance CEO Paul Ricci: "Can you confirm you've hired a financial adviser in terms of working with your strategic alternatives?". Mr. Ricci dodged the question, and stated: "I can say that Nuance is very well advised and we work with many firms.". There was no follow up question, nor specific mention of Goldman Sachs.

The Bottom Line

With the possibility of being under the thumb of Icahn, coupled with residing in the upper echelon of technology, the Nuance breakup value could be more than a sum of its parts if current management can't get back to its previous growth trajectory. I've always liked this company, however, that doesn't necessarily translate into a rising stock price. I believe with the Icahn stake, the handwriting is on the wall for Nuance. In a year from now, shares could be considerably higher, from change within the organization, or pressure from outside the company.

Riding High In April, Shot Down In May: Nuance Communications and Ruckus Wireless

I've covered Nuance Communications (NUAN) and Ruckus Wirleless (RKUS) in previous posts. My last focus article on Nuance Communications concentrated on their Analyst/Investor Day presentation back in December of 2012. For Ruckus Wireless, I wrote about their inaugural conference call three short months ago. I liked both company's prospects, but they traded too high for my investing style at the time of the writing. Circumstances changed when both companies recently reported quarters that didn't live up to Wall Street expectations. As shares fell, I put my money where my mouth is, and took stakes in both companies.

Ruckus Wireless

Although Ruckus Wireless has been around for over ten years, it's only been a public company for six months. It closed today at $13.40/share, and the WiFi plumbing provider is basically back to square one to when the underwriters valued the stock between $13-$15 for its IPO late last year. Although it closed under the IPO price after the first day of trading, the stock shot up to $26.50 its first few months on the market. Two months ago when Ruckus was trading at $24, I put a $16 limit order on it, then waited.

Be careful what you wish for. After missing Q1 earnings estimates, and guiding down for Q2 (a traditionally strong quarter for the company), the stock crashed through my initial offering, and I was stuck with shares at $15. Picked up more at $13.40, so my average cost is somewhere in the low $14 range. I'm not sure if this is like trying to catch a falling knife, but there's another Wall Street adage about bulls make money, bears make money, and pigs get slaughtered. I thought $14 was a good price for Ruckus Wireless, and I still do. You can't get all your holdings at 52 week lows.

The problem with the quarter and tepid guidance is a delay of orders from telecom carriers in China and North America. Lazard Capital's downgrade from a Buy to a Neutral rating didn't help either. According to the analyst at Lazard, it may take a few quarters for Ruckus to get back on their growth trajectory. I'm willing to wait. Q3 tends to be strong for Ruckus, and although this is six months away, I prefer to load up on good companies while they are experiencing some growing pains. I'd like to buy all stocks when they are at rock bottom, but it just doesn't work out that way most of the time.

Nuance Communications

Where Ruckus cratered 25% the day after their conference call, Nuance communications did almost the same, dropping 20%, from $23 to $19 right after their lackluster earnings presentation. Not only did they miss on the top and bottom lines, but they also had poor guidance for 2013. They are in transitional mode, from desktop to mobile, and also by the overall industry shift to on-demand, or cloud based services. I purchased shares at $19, and the equity hasn't budged even though Wedbush Securities rated the stock an Outperform yesterday.

Nuance has long been a favorite of mine for their futuristic voice recognition technologies. Just last week the company announced that they are providing a voice biometrics solution to securely and automatically confirm the identity of Barclays Wealth & Investment Management customers – using the sound of their voice. These are the type of companies I like to purchase, but it doesn't necessarily translate into a good investment unless the company can execute. In comes Carl Icahn.

In early April, Carl Icahn took a "passive" 9.3% stake in Nuance. After the conference call, it was made public that Mr. Icahn increased his stake to 10.7%. Carl Icahn has a reputation for making money, whether it be from good old fashioned "passive" investing, or putting pressure on the boards of companies he invests in. I am not sure what his intentions are with Nuance, but he may take an active role in the company's direction. This could be by taking it private, selling off some of Nuance's under performing divisions like imaging, or selling the company to a larger organization.

The fact that Mr. Icahn has taken a position in Nuance was not inconsequential when I decided to buy shares. I believe he may goose the share price in the short term if any headlines hit cyberspace spelling out his intentions. The stock trades near multi year lows. I thought is was a good bet despite my belief we are due for an overall market correction.

Conclusion

While the market has been roaring, both Nuance Communications and Ruckus Wireless have been snoring. My investing goals in technology companies is to try and double my money in three years. With my purchase price of $14.40 for Ruckus, and a 25% plus earnings growth rate once it regains traction, I think my chances are good it to hit $29 by 2016. However, just like my investment with Acme Packet (recently bought by Oracle), which was also dependent upon Telecom Carriers, you may have to languish for a quarter or two until spending picks up.

For Nuance, I think there may be pressure on the executive team to do something sooner than later. Besides Mr. Icahn's 10.7%, 14.6% of the company is owned by private equity firm Warburg Pincus LLC (as of March 14th). Although Warburg Pincus has been reducing their stake, those are two powerful entities that have a lot to say about the future of the company. Even if no actions are taken by Mr. Icahn, I still think I can double my money in 3 years. That would be a price of $38/share. Not an unreasonable goal if the market continues its climb.

Synchronoss Technologies: Expanding From Personal Cloud To Enterprise Cloud

AT&T (T), Verizon (VZ), Vodaphone (VOD) and Telefonica of Spain. What do these Tier 1 mobile operators have in common? They're all rolling out, or will introduce the Synchronoss Technologies (SNCR) personal cloud platform in calendar year 2013. Operators are seeing a churn rate that is anywhere from 25 to 50 basis points lower when their subscribers are connected to the Synchronoss personal cloud. With millions of mobile subscribers and counting, that adds up to a lot of money.

Here is a synopsis of some of the progress Synchronoss is making to backup and store consumer digital files with their partnerships in telecom:

• They have successfully launched their personal cloud platform at Verizon, and are now focused on adding devices, additional data classes and functionality over the course of the year. This is being rolled out under the name Verizon Cloud.
• They continue to pick up momentum at Vodafone. Due in part to last year's NewBay acquisition, they remain on track to rolling the full production with the 14 major properties of Vodafone by the end of 2013.
• During the first quarter, they launched their personal cloud platform with Telefonica in their home market of Spain, and are looking to expand into other opportunities later this year.
• They deployed their initial version of some cloud transactions with AT&T, and Synchronoss software will begin to be shipped on some new devices at AT&T this quarter.

According to CEO Stephen Waldis in the Q1 conference call, "Operators are beginning to capture an immense amount of valuable data related to customer patterns in the cloud, which is helping them create a comprehensive social graph for their customers.". Sounds a lot like Facebook (FB), Apple (AAPL), Google (GOOG), or, Amazon (AMZN), and there's a reason for that. Those companies are the combatants in the race to gather and store your information to servers in cyberspace. Audio, video, text, you name it, they will store it. There's a lot of money on the line, and the carriers want in.

Synchronoss can't get into specifics about how they price their deals with a particular client, but generically across the customer base, they basically get a fee every time an end user is a subscriber to the personal cloud. Many telecom carriers will give a certain amount of data storage away as a teaser, just like Apple does with iCloud, but that doesn't necessarily impact Synchronoss. Synchronoss gets paid for every active user that utilizes the platform, irrespective of whether they go over the complimentary data minimum. Once a mobile subscriber begins to backup their personal files, it's money in the bank for the company.

This initiative is expanding at warp speed for all players in this field, not just the Tier 1 telecom carriers. You, yourself may back up your mobile data files to iCloud, or an Amazon or Google offering. It's like a gold rush for data storage because syncing your files to a portable hard drive seems like the old fashioned way to do business.

Additionally, companies of all sizes require the security and scalability that this type of backup technology has to offer. Initially, Synchronoss planned to deploy an enterprise version of the personal cloud sometime in mid 2014. This has all changed because of urgent requests from their client base. According to Waldis:

We believe the business cloud, our new offering, will represent a significant expansion of our addressable market opportunity. This was initially on our longer-term product roadmap, but one of our major Tier 1 mobile operator customers has asked Synchronoss to accelerate our efforts. We believe the enterprise cloud market, specifically in the small to medium-size enterprise category, represents an opportunity that is large, or, potentially even larger than our personal cloud services opportunity.

Mr. Waldis believes this enterprise deployment will take place in Q4 2013, or, Q1 2014. Wall Street really ate it up, and the stock popped 11% to roughly $30 in one trading session after the presentation. However, that wasn't the only thing investors liked about the quarter. It was a solid performance on the top and bottom lines.

Q1 was highlighted by revenue that was above the high end of their guidance range. Non-GAAP revenues were $79.5 million, representing 22% growth on a year-over-year basis. They also achieved their profit objectives for the first quarter while investing aggressively in the personal cloud platform, leading to a non-GAAP EPS of $0.28, coming at the midpoint of their guidance.

Synchronoss Technologies is not so much a company in transition, but an organization in expansion mode. Activation Services still has the lion's share of revenues at 70%, and although these services grew at 20% year-over-year, it is the personal and enterprise cloud that will propel the business forward for the next 3-5 years. This is not to say that Activation Services won't play a big part of the Synchronoss story, it's just that the brunt of growth will come from backing up data. This is what I believe, and so does Synchronoss management.

According to Yahoo Finance, the trailing twelve month P/E on the company is 54. That's very expensive despite the earnings and revenue beat. However, consensus analyst estimates seem to be conservative with earnings growth projected to be in the 20% range going forward the next few years. The storage and backup business is like a microwave oven, it will heat up in a hurry if the telecom carriers have their way.