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2HRS2GO: VeriSign starting to catch up to its stock price

COMMENTARY -- VeriSign (Nasdaq: VRSN) executives must be wondering what it takes to please Wall Street these days.

The digital security specialist and domain registrar reported better-than-expected fourth quarter results and raised estimates for the first quarter and full year. The result? Shares of VeriSign fell more than 6 percent today, mirroring last night's afterhours activity.

Some of today's reaction can be attributed to profit-taking. VeriSign has a history of falling after posting strong quarters. The share price last year tumbled on Oct. 26, July 27, April 20 and Jan. 21. Each date marked the day after an earnings report that topped analyst estimates.

Speaking of which, VeriSign this time beat estimates -- but not by as wide a margin as you might think. Although VeriSign reported earnings of 21 cents per share, that wasn't on a fully-taxed basis, something the company neglected to mention in its press release. If you assume taxes on the company's pro forma operating income -- excluding amortization -- VeriSign earned 13 cents per share, or 2 cents better than analyst consensus, according to First Call.

Thomas Weisel Partners analyst Geoff Beard also notes that VeriSign's non-operating income topped his expectation by almost $4 million, or 2 cents per share. If you discount that unexpectedly high figure for "other income", VeriSign only met Wall Street's figures, and actually missed Beard's own estimate of 12 cents per share.

Beard was among at least two analysts to downgrade VeriSign today. He and ING Barings' George Godfrey each cut VRSN to "buy" from "strong buy" advisories.

The ratings changes were largely motivated by price. VeriSign entered yesterday's conference call trading at 151 times estimated 2001 earnings -- an amazing multiple in a bull market, and an out-of-this-world valuation in the current bearish climate.

"While VeriSign's shares have been valued higher, in fact much higher, it was at a time of much higher revenue growth rates and higher stock valuations in general," Godfrey writes in a research note issued this morning. "In the current market environment, we believe investors will be less willing to pay such high multiples of revenue and earnings, in the face of decelerating growth."

That last part is critical. VeriSign raised its revenue targets to as high as $1 billion for the year, but the company already expected to generates sales of $975 million or better. "Investors are unlikely to get excited about a '$25 million' upward revision to annual estimates on a $1 billion run rate," Godfrey says.

Thomas Weisel's Beard doesn't expect VeriSign's growth to speed up until the latter part of this year.

"Both financial and strategic momentum will accelerate in the second half, not the first half, of the year," Beard writes. "We will look for announcements of, and traction from, additional subscription-based services as evidence that VRSN is transitioning into the de facto Internet trust utility we believe it can be. In the interim, however, our opinion is that VRSN will be in a state of transition that will continue to exert a divisive influence over investor sentiment."

A downgrade based on "divisive influence" seems to be based on psychology, more than anything else. That's not a bad way to go; the market is ultimately a measure of shareholders' mood, not corporate performance. Good companies don't always have good stocks.

That's important to remember about VeriSign. There is no reason to believe anything has changed -- it's still the well-run company that looked attractive last week.

Still, analysts now see VeriSign expanding at "only" 50 to 60 percent a year. Fabulous growth by any standard, but less than in previous years, and less than you might want for a stock that was trading at 16 times annual revenue.

It happens -- sooner or later, all good companies start growing into their multiple. VeriSign might be reaching that stage. 22GO>