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Network maker's plans cause hefty stock drop

Netsilicon falls 25 percent the day after reporting strong earnings but also warning of slimmer profits in the quarters ahead.

Netsilicon fell 25 percent yesterday, a day after reporting strong earnings but also warning of slimmer profits in the quarters ahead.

Stock in the maker of network equipment and software fell $11.31 to $34.00 a share at the close of regular trading, on a volume of 1.07 million shares, more than 3 times the stock's daily average over the past three months.

"It was a lot uglier than I thought" said CIBC World Markets analyst Rob Adams. "We were thinking that the stock would slide about 6 to 8 bucks."

Thursday the company reported strong fourth-quarter earnings of 5 cents a share, topping analysts' consensus expectations of 3 cents as reported by First Call. But Waltham, Mass.-based Netsilicon also warned that profit margins would be slimmer in the future as it invests in adding products that run on Linux and Java-based "embedded" software.

The move should pay off in the long run, according to Piper Jaffray analyst Ashok Kumar, because the company will have more control over its software and will not have to pay licensing fees on some of the software that currently runs its devices.

Yet the company expects this investment to eat into its profits over the short term. "We anticipate that our net income for fiscal 2001 and 2002 will be substantially lower than earlier expectations due to investments in these new business opportunities" said chief executive Cornelius Peterson.

Java is often used in networking software, and both Linux and Java are popular among the software development community, Peterson said.

According to CIBC's Adams: "Basically, operating expenses are going up substantially and most of it will be in research and development."

Kumar forecasts that operating profit margins will shrink from 8 to 5 percent over the next two quarters. However, the analyst believes that investors will rejoin Netsilicon in the future, noting that the stock has rocketed up from its $7 a share IPO in September to a recent high of $49.

"Considering the run-up the stock has had from its original offering price, it's prudent for investors to lock in a profit now and re-engage at a later time."