It isn’t every day that traders cut one of the FTSE 100’s blue chips in half.
That plunge in Micro Focus International’s shares MCRO, +4.85% during the past week made Facebook’s FB, -3.34% selloff look mild. The Micro Focus bulls—they still exist—view the dive as overdone. They snort that the British business-software company boasts several stable revenue streams and a healthy balance sheet.
So are Micro Focus shares now a great deal? Probably not, say the bears. They make a convincing case, even as the shares trade around six times forward-year estimated earnings, well below IBM’s IBM, -2.10% multiple of 11. “In a sector with plenty of growth and margin-improvement stories, we prefer to own other, more consistent names,” write J.P. Morgan analysts Stacy Pollard and Toby Ogg in a note. They see “very little” that could spark a turnaround this year, and have an Underweight rating on the shares and a price target of nine pounds ($12.70), around where they’ve traded during the past week.
Micro Focus fell roughly 50% for the week after the company on Monday announced CEO Chris Hsu’s resignation and warned of a revenue drop of 6% to 9% for fiscal 2018. The stock cratered more than 50% intraday on Monday, before ending that session down 46%.
Micro Focus’ big headache is that its merger with Hewlett Packard Enterprise’s HPE, -3.77% software business hasn’t clicked. That $8.8 billion September 2016 deal, which gave HPE shareholders a 50.1% stake, was supposed to lift Micro Focus into tech’s big leagues. It also was hailed as boding well for overall mergers-and-acquisitions activity in the U.K. after deal-making stalled following the June 2016 Brexit vote. But during the past week, Micro Focus said it has suffered from sales-staff members departing and “issues relating to our new IT-system implementation, which have impacted the efficiency of our sales teams, our ability to transact with partners, and our cash collection.”
Micro Focus insists the “fundamental thesis of the HPE software acquisition remains intact,” and blamed its disappointing guidance on “largely one-off transitional effects of the combination with HPE software, rather than underlying issues with the end market or the product portfolios.” The new CEO is Stephen Murdoch, who held the job before Hsu and was recently chief operating officer.
J.P. Morgan’s analysts aren’t won over. The company’s business model relies on engaging in M&A in legacy software, and the merger with HPE is “clearly below expectations at this point in the process,” Pollard and her colleagues write. They warn about the potential for higher restructuring charges that would pressure cash flow, hamper deleveraging, and prevent other deals.
The bull case had rested on expectations of sizable profits and more M&A, write Investec analysts Julian Yates and Roger Phillips in a note. “This thesis is derailed, at best, for a long passage of time,” they add, going with a Hold rating and a £10 price target.
The selloff “looks substantially overdone,” counter Numis analysts David Toms and Will Wallis. Micro Focus “has no balance-sheet issues” and enjoys “inherent stability,” thanks to recurring revenue from operations such as its SUSE unit, which sells Linux products. They have a Buy rating and a £20.10 target.
Whether bullish or bearish, investors “with long memories” could be “wondering whether the company has returned to type,” says Russ Mould, investment director at AJ Bell. Analysts in the 1990s dubbed it “Hocus Pocus Micro Focus” due to its volatile earnings and profit warnings, he writes.
This report also appears at Barrons.com.