In an article last month, I talked about a software company that had surged more than 11% following its solid fiscal fourth-quarter earnings report. On the other hand, I also talked about how near-term upside would be a little harder to come by given the impressive pop.
While I continue to like the company’s longer-term potential, I advised my GameChangers subscribers to take their profits in Red Hat Inc (NYSE:RHT) just a few days later. We’ll talk more about why shortly, but first here’s a little bit more about Red Hat.
Red Hat is the world’s largest leading provider of open-source solutions, providing software to 90% of Fortune 500 companies. Some of RHT’s customers include well-known names like Sprint Corp (NYSE:S), Adobe Systems Incorporated (NASDAQ:ADBE) and Cigna Corporation (NYSE:CI).
Red Hat management’s goal is to become the undisputed leader of enterprise cloud computing and sees its popular Linux operating system as a way to the top. If RHT is successful — as I expect it will be — Red Hat should have a lengthy period of expanded growth as corporations increasingly move into the cloud.
Red Hat’s operating results had always clearly demonstrated that its solutions are gaining greater acceptance in IT departments, as revenues had more doubled in the five years between 2009 and 2014 from $748 million to $1.53 billion.
I had expected to see the strong sales growth continue throughout 2015, and it did. In RHT’s fourth-quarter report that was released on Mar. 25, Red Hat earned 43 cents per share (up from 39 cents per share in 2014) and saw revenues increase 16% (or 22% on a constant currency basis). The revenue gains were divided pretty evenly between software subscriptions and services.
As I mentioned earlier, these impressive results sent the shares 11% higher the following day, which was just fine with us.
At the same time, it changed things. RHT shares were then trading at 38 times February 2017 estimates, and I became more concerned that further near-term upside would be limited — especially given Red Hat’s long-term 12% growth rate. Plus, the stronger U.S. dollar could also put some pressure on RHT stock.
After Red Hat climbed to a new 52-week high above $77 on Mar. 30, I decided it was time to lock in our gains. RHT stock had been on a tear since its near-term low on Mar. 11 — climbing nearly 20% in just three weeks — which also made it vulnerable to a pullback in the next market hiccup. At that point, I wasn’t willing to risk our double-digit gains.
So, after having bought RHT in my GameChangers service back in mid-January, we were able to book a solid 15.7% return in slightly more than two months.
RHT has traded mostly between $74.50 and $76.50 so far in April, just below where we sold it. Red Hat is certainly a company with solid growth prospects. As corporations continue to adopt additional cloud technologies, RHT only stands to gain — especially given its already strong presence in enterprise IT departments.
This was simply a case of selling a good stock to buy a better stock.