Brocade Stock Down 27 Percent After Warning

Shares of Brocade Communications Systems (BRCD) lost more than a quarter of their value on Friday after the data storage networking company warned of disappointing quarterly revenue and said it cut about 150 jobs, or 12 percent of its work force.

Brocade said late on Thursday it cut 12 percent of its work force, bringing it to about 1,200, and that its chief operating officer will leave the company.

In addition, analysts pointed to a range of concerns, which included the executive departure, rising expenses, declining gross margin, and confusing remarks by management about "a contraction in the supply chain." A comment by management on a Thursday conference call that it would reprice worthless stock options for employees also added to investor concerns.

"Brocade guided down pretty sharply for this quarter. They blamed demand and also what they called contraction in the supply chain which in my mind is a euphemism for inventory correction," Thomas Weisel Partners analyst Jason Ader said.

The stock closed down $2 at $5.28 early Friday afternoon on Nasdaq sending the stock to the top of the most active issue and worst percentage loser rankings, after it hit a 3-1/2 year low earlier in the session. In heavy trading, more than 100 million shares exchanged hands — a volume almost five times its daily average trading volume.

Ader said the news contrasted with positive news in recent months from Brocade customers, including Hewlett-Packard and Hitachi Ltd (6501.T) regarding storage networking.

"With Brocade being the biggest storage switch vendor in the world you'd think there would be some positive things going on there. In fact there's a big meltdown," Ader added.

Another analyst was worried whether Brocade's cost cutting measures would offset its declining revenue.

"While the company announced a 12 percent headcount reduction, we are skeptical if it can realign its cost structure fast enough to offset the revenue shrinkage," U.S. Bancorp Piper Jaffray analyst Ashok Kumar said in a note.

Brocade said on Thursday it expects revenue of $120 million to $125 million for the first quarter ending in January, compared with Wall Street's average estimate of $153 million from analysts polled by Thomson First Call.

Brocade said that it was experiencing what it called a "contraction in the supply chain," noting that the trend of lower first-quarter revenue would last only one quarter.

"A problem with the Brocade 'supply chain' thesis is that none of Brocade's peers are looking for similar declines in the fourth quarter," wrote Luke Fichthorn, an analyst at Lazard Freres & Co.

In his research note, Piper Jaffray's Kumar pointed to concerns about weaker information technology spending and the emergence of technology heavyweight Cisco Systems as a competitor in the storage market.

Cisco is moving into the storage switch market, and analysts said customers may have paused buying from Brocade ahead of Cisco's entry.

Lehman Brothers cut its rating of the company to "underweight" from "equal weight," saying the results indicate it has issues to address.

Brocade, which dominates the market for mid-range switches that link storage networks, said on Thursday it swung to a profit of $15.7 million, or 7 cents a share, in the fourth quarter ended on Oct. 26 from a year-earlier loss of $53.7 million or 24 cents a share.

Merrill Lynch analyst John Roy wrote in a note that Brocade during the fourth quarter had sold securities to create a gain of $7 million, adding that without that, earnings per share would have been 5 cents, two cents below analyst expectations.

Late in October, Brocade warned of lower revenue and earnings, citing weak information technology spending.

Also, Brocade executives said on its conference call that it was re-pricing employee options that were far below their exercise price.

"While the details will be released in a December filing, the message will not be lost on current shareholders," Roy wrote.