“After a spell in private equity ownership the company’s return to the stock market got off to a rocky start in 2005-06, with an initial series of trading alerts and the sudden departure of the then CEO. Investors with long memories will therefore be wondering whether the company has returned to type, after the company’s second disappointing update in just three months and a collapse in the share price.
“Anyone who owns the shares – or even those who do not – must now quickly address three questions.
The first is whether Micro Focus can bounce back (as in fairness it has done before)? Despite the mis-steps of the 1990s the firm was ultimately seen as attractive enough to be worthy of acquisition by a private equity group. It then rebounded again from its initially troubled return to public ownership under the guidance of Stephen Kelly, who is now the chief executive officer of fellow FTSE 100 firm Sage. And it recovered relatively quickly from a warning in 2011, helped by the brief revival of talk that there would be another bid from private equity. In theory, Micro Focus’ expertise in core computing languages, such as COBOL, Linux and the open source SUSE suite means it has a captive customer base as it supports and helps to modernise legacy IT systems for its customers and is capable of generating high margins and good cash flow.
The second to ask is are there any other highly-acquisitive firms about to get themselves into trouble? Micro Focus’ $8.8 billion deal to buy HPE’s software business was huge and very complicated, not least because both firms had already done a lot of deals – since 2013 alone Micro Focus has snapped up key products lines from Progress Software, Attachmate (for $1.2 billion) and Serena (for $540 million). Investors need to be wary of firms which make multiple acquisitions, especially if they are big and seen, or described, as transformational as the scope for something going wrong is considerable – as shareholders in Marconi, Royal Bank of Scotland or more recently Carillion will attest. Carillion acquired Mowlem, McAlpine and Eaga to name but three. Bunzl and Halma have done a terrific job of using smaller deals to supplement momentum in the business that already exists, so it is the big deals that must be watched most carefully. Tesco-Booker is the biggest of the year so far, and Dave Lewis and Charles Wilson must now deliver on their cost and revenue goals, while other serial acquirers include FTSE 250 plastics packaging expert RPC whose last big deal and fund raising, Letica in early 2017, seem to have weighed on its share price ever since.
Which other companies are relying on a better second half? In its lukewarm trading statement in January, now ex-CEO Chris Hsu had noted that he expected a shift in licensing revenue would lead to revenues being higher in the second half than the first (partly because the firm had shifted its financial year end). Investors must be careful with firms which talk about profits being more second-half weighted than usual as it tends to mean management needs several things to drop right just to meet forecasts, let alone beat them. Other recent examples where hoping for a better second half did not work out include Alumasc and Greencore, Alfa Financial, Ultra Electronics, PZ Cussons and Redhall.