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Server maker's stock drops on profit delay

Investors strip away nearly half of Network Engines' value on news that a program to increase market share will delay the company's profitability.

Investors Thursday stripped away nearly half the value of Network Engines, a maker of special-purpose servers, on news that a program to increase market share will delay the company's profitability.

The Canton, Mass., company surpassed analyst expectations for quarterly financial results Wednesday and announced an acquisition to improve its products. But news of the increased operating expenses sent Network Engines' stock down $12.75, or 49 percent, to $13.25 in midday trading Thursday.

Although Robertson Stephens analyst Dane Lewis slightly raised his expectations for Network Engines' revenue in coming quarters, he also predicted that the company would become profitable half a year later, in March 2002 instead of September 2001. He lowered his earnings-per-share estimate for the coming fiscal year from a loss of 8 cents to a loss of 47 cents.

Network Engines makes thin servers used by Internet service providers and others that need to bolt servers by the dozen into racks. Despite increasing revenue, the company faces major competition from the likes of IBM, Dell Computer, Compaq Computer and Sun Microsystems, all strong and established server sellers who are steadily losing their reluctance to sell special-purpose systems, often called "server appliances."

The established server companies had been concerned that server appliances would cut into sales of general-purpose servers, but they have erased much of the lead of appliance start-ups.

Wednesday, Network Engines reported a net loss of $2.8 million, or 5 cents per share, on revenue of $16.3 million for its fiscal fourth quarter, ended Sept. 30. Analysts surveyed by First Call/Thomson Financial had expected a loss of 8 cents per share. Revenue increased 38 percent from the $11.9 million of the year-ago quarter.

Also Wednesday, the company said that it acquired IP Performance, an Austin, Texas-based company that provides technology to boost network-transfer speeds and will be used to improve Network Engines' servers for sending out Web pages and other Internet content.

The IP Performance price tag was 450,449 shares of Network Engines' stock. At Wednesday's closing price of $26, the deal would be valued at $11.7 million, but the value now has dropped to about $6 million.

In the most recent quarter, licensing revenue declined to $1.7 million from $2.7 million for the year-ago quarter, and it will continue to decline, Network Engines said in a statement.

IBM licensed Network Engines' design that squeezes two processors into a server 1.75 inches thick, but IBM now has its own model, while the top seller of Intel servers, Compaq, has also joined the race.

The company warned that gross margins will decline with the diminishing license fees. However, it said the new Voyager product line will boost it again.

Network Engines has expanded its product line to include network-attached storage (NAS) servers dedicated to storing files on ordinary networks.