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Contributors: Douglas McIntyre Jon C. Ogg

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Saturday, September 23, 2006

Weekend Edition: 3Com's Huawei Venture Buys the Company More Time (COMS)

3Com (COMS) is probably feeling a bit lucky this morning. It certainly isn't over the great top-line results the company posted after the close yesterday. They reported a loss of -$0.04 and revenues of $300.1 million, both of which were under the -$0.01 and $312 to $314+ million estimates (Reuters was at $311.7 million and First Call was over $314 million). The results include a restructuring, amortization and stock-based compensation expense of $15 million, or 4 cents a share, which would have put the net loss at under -$0.01 on the old pro-forma basis.

While it is a net miss compared to top-line estimates, the company in the same quarter last year lost $42 million, or -$0.11 on an EPS basis. Revenues were up 69% from last year because of it having its first full quarter of counting the Huawei joint venture revenues.

The company is now in a very difficult situation when you sit down to analyze the results. The year-over-year results are not insightful. The company is still deciding which units to kill and what employees to lay off. They have the majority ownership of the Huawei router venture dubbed "H-3C," so now the company counts all of the revenues as its own and this was the first full quarter COMS got to count the entire revenues of the whole venture. This is arguably a poor way of counting revenues, but my opinion shouldn't change the accounting laws even if they are a farce in that respect. 3Com is restructuring and cutting locations, and that is still a perpetual ongoing issue.

There are only 2 bulge bracket firms that are still positive on the name: Bear Stearns has noted that the company could be increasing its 51% stake in H-3C, and noted that it could be a catalyst later in the year; firm maintained Outperform. UBS's Long Jiang is the top analyst for COMS according to Starmine data, and it appears that UBS lowered its target of $6.40 down to $5.60 after mixed results; report noted compelling valuation and maintained its Buy rating (that had been raised at the end of June).

We have been very critical of the company and its management for quite some time. We could come out being more critical against management yet again. We could come out saying that the company should just write off the entire operation to focus on H-3C and just sell or shut everything else down. We could point out that shareholders have had to endure pain year after year. We could go on and on.... But we won't.

We are not ready to change a critical stance yet, but we are not going to give a Black Death label to COMS either. The company is still the only way to play Huawei router, and the company may have bought themselves more time to prove their right to life.

The short interest for September will be available after the weekend, but its short interest in August was 23.3+ million shares. That is only 6.5% of its float and was a bit higher than the July reading of 22.5+ million shares. Its options activity has not been indicative of any trends, but the strike prices are so far apart that you would wonder why there are even stock options that trade in the stock.

Shares of COMS had been down about 5% but are now only down 1.9% at $4.47 on the day. Its trading range for last year is $3.47 to $5.70.

Jon C. Ogg

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