I’ve been hearing rumors lately about a second tech bubble on Wall Street, and the big hit that tech stocks could take should it burst.
Sure, there’s no question many tech stocks have suffered. They tend to have higher P/E ratios, and in the recent environment, investors have been rotating out of those.
But while some investors may run away from tech stocks, you can count on me as one who’s going to keep buying — at least certain ones.
That’s because I like to invest in game-changing companies with innovative technology and catalysts to drive the shares higher, regardless of the market environment — and that includes a bubble.
Let me share with you three tech stocks that I believe will survive the bubble and why they’re winners for the long haul.
Tech Stocks That’ll Survive: SolarWinds (SWI)
SolarWinds (SWI), contrary to what you might think from its name, is not a solar company. It is a software company with a presence in both virtualization and security, and offers solid profit potential thanks to dedicated customers and a growth rate that is already outpacing the overall industry.
SolarWinds’ main goal is to help other businesses cut costs and operate more efficiently. SWI does so through good products that cost less than many of its competitors, providing strong value that has resulted in a big and loyal customer base.
SolarWinds has built its niche in providing software that helps IT professionals manage all aspects of their firms’ technology — from networks to servers — through its flagship product, the Orion Network Performance Monitor. The software can also monitor, troubleshoot and repair remotely. This is done through a process called virtualization, where data and network applications use the cloud to host data, applications and analytics.
When looking at tech companies — especially software-centric firms — it’s important to take note of the split between license and recurring revenues. License revenues are the initial sales of a software offering, while recurring revenues include maintenance and subscription proceeds. Recurring revenues also carry relatively high margins because it adds to the top line without having to hire additional salespeople, spend more on research and development, or advertise.
SWI has managed to keep its recurring revenues strong through cross selling, wherein a customer adds on new SolarWinds products and features to those it already has in its tech arsenal. That means SWI can keep growing sales without spending additional dollars on operating expenses, while creating a loyal and longtime relationship with clients.
The company beat first-quarter earnings expectations, with recurring revenue standing at a record for the quarter, up 41% year-over-year. SWI continues to execute well on new business, and I expect investors to focus on the company’s annual outlook, which will help move the stock higher.
Tech Stocks That’ll Survive: Nuance Communications (NUAN)
At first glance, Nuance Communications (NUAN) has a few factors working against it. The company is in the midst of a long-term transition to a new business model, has posted a string of earnings disappointments, and saw shares flounder last year as the overall market soared.
But dig deeper and you’ll see that this speech recognition software company stands out as a game changer thanks to its impressive technology, large-cap ally, and a big-name activist shareholder with a large stake in its future. And with evidence the company’s results are turning a corner, the stock is an attractive buy at current prices ahead of strong potential growth.
Even if you’re not familiar with Nuance, you’re likely on friendly terms with one of its most famous software personas. NUAN powers Siri, the ubiquitous personal assistant that so many iPhone users look to for directions, where to eat or just some disembodied conversation. NUAN earns revenue from Apple (AAPL) via flat fees, which are not determined by how many phones it sells.
But while NUAN is a bit of an indirect play on AAPL, no customer accounts for 10% or more of sales, which adds further downside protection.
The company also makes Dragon NaturallySpeaking software, which converts speech into text for PCs, and recently announced that it will work with Intel (INTC) to introduce new voice recognition into Atom and core chips powering notebooks. Another key product is Nuance’s Swype technology, which has been making inroads into Android-powered devices.
NUAN has multiple new revenue streams in place that are just starting to materialize, from voice biometrics (which could be a boon to financial institutions and others looking to protect sensitive data) to new avenues like voice ads.
Let’s not forget about that big-name shareholder I mentioned. Nuance has come under fire in the past for its corporate payment structure, when the CEO’s salary famously accounted for 50% of operating income. But now, activist investor Carl Icahn owns about 24% of NUAN stock — up from the low-single digits a year ago. He also has managed to get two of the 12 board seats.
Some investors have speculated that Icahn will push for a breakup of the company or at least a substantial change in management. And given his recent famed forays into Apple, where he owns about $3 billion in shares, other industry watchers think he’ll push for Apple to buy NUAN. For now, Icahn has said he would not do that, but his presence certainly brings a level of attention to NUAN stock. Whatever course of action Icahn takes (and given his level of persuasion, other large shareholders may be inclined to join him), it’s likely that major changes are in the offing for this company, and that could send the stock soaring.
Tech Stocks That’ll Survive: Fortinet (FTNT)
Fortinet (FTNT) is a $3.3 billion market cap company specializing in network security. It focuses specifically on unified threat management, which means the typical firewall has evolved into an all-in-one product that detects and prevents intrusions.
FTNT offers a number of application control and firewall software offerings, but its flagship device is FortiGate, a network security platform that can work for anyone from small offices and retailers to large enterprises and data centers.
The stock hit a low point last fall, dipping down to the mid-teens when CFO Ahmed Rubaie left the company after only a short time, citing personal reasons. Wall Street never likes to see senior executives leave if there’s no real turnaround in the works, and investors get jittery that the current business course may be interrupted with new management in place. However, shares rebounded nicely and have since stabilized as Andrew DelMatto was named CFO.
FTNT’s most recent results also indicate a good rebound from a tough first half last year. The company has announced two straight earnings beats this year, including April’s report in which EPS of 5 cents beat the Zacks estimate by a penny. Revenues of $168.9 million were up 24.4% and also beat the expectations.
Many of FTNT’s security peers have actually seen slowdowns in these segments, which further hints that the company is gaining market share. In fact, management called out a specific large deal at a telecom carrier, where it displaced McAfee and Juniper.
The stock has gained steadily over the last couple of weeks, despite the recent market volatility, aided by strong earnings results in April and continued demand for Fortinet’s one-stop cybersecurity solution. The company’s long-term story remains intact, with expected mid-teens top-line growth and even faster earnings acceleration over the next few years, making FTNT an attractive opportunity.
Hilary Kramer is the editor of GameChangers.