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12/6/2001
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Taking Stock: Gartner Shows Solid Growth Prospects And New Initiatives

Consulting services have been advisory firm's bright spot.

With the recent run-up in technology stock prices, it's hard to find good values within the technology landscape without making leaps of faith about growth prospects. As I recall, this is how investors got burned during the recent technology stock-market bubble. To avoid some of the same mistakes, I sifted through the more reasonably valued technology names to get some new investment ideas. One name popped out at me: Gartner Inc. (IT--NYSE), one of the leading independent IT research and analysis firms. The company also provides consulting services and stages events. Most readers are familiar with Gartner's coverage of IT issues, products, and services.

Very few companies have any loose change to throw around, so it shouldn't be a surprise that demand for advisory services of any kind is way down the list of business priorities. However, Gartner's fast-growing initiatives such as executive research for CIOs as well as its strategic advisory work for larger companies support revenue growth. Though research revenue only grew 1% year over year last quarter, retention rates rose to 74%. Unfortunately, the average price for research fell to $56,000 from $58,000 last year but was offset by a growing customer base (9,687 clients as of the end of September). Gartner's new G2 research initiative will compete with Forrester Research's high-end strategic research product. In the latest quarter, 100 clients purchased G2 services.

Gartner's brightest business segment has been its consulting services. The company expects its consulting revenue to grow about 10% year over year. Despite a recent decline in the number of consultants to 608 from 626 the prior quarter, utilization rates rose to 57% from 54% the prior quarter. Billing rates declined to $267 an hour from $280 an hour the prior quarter (I'll take those rates any day!). Average billing per engagement now exceeds $100,000.

There also has been growth in demand for its one-day strategic advisory services. These services are priced at about $7,000 per day, and backlog is now $22 million, up more than 90% year over year.

One of the bigger near-term issues for the company is the decline in its events revenue. After Sept. 11, both travel and discretionary spending for events and conferences declined rapidly. The company says it will reduce the number of events it stages next year. Events revenue is projected to decline 10% to 15% year over year based on the reduced number of scheduled events.

Gartner recently provided updated information on fiscal 2002, which will end in September. It projects revenue of $950 to $975 million, which is roughly a 0% to 2% year-over-year revenue growth rate. This will translate to 47 cents to 52 cents earnings per share, a growth rate of 0% to 11% year-over-year. While at the low end of earnings-per-share guidance, the stock, priced at $10, trades at a price/earnings multiple of 21, which is in line with the Standard & Poor's 500 multiple.

Cheap? No, but it's not too bad, given Gartner's better long-term growth prospects and stable recurring-revenue business model. In its most recent fiscal fourth quarter, deferred revenue grew 6% to $351 million while actual fourth-quarter revenue grew only 3% to $224 million. Given that its near-term top and bottom line may not be too exciting, Gartner's management has focused on cost control and expanding operating and profit margins. Those are smart moves in a slow economy. Gross margins came in at 57.6% last quarter vs. 50.5% last year. Operating margin, excluding amortization, was 11.6% vs. 4.9% last year. Free cash flow for the company is expected to exceed $100 million in 2002, which can be spent either on strategic, hopefully accretive, acquisitions or share buybacks. With 84.5 million shares outstanding, the equity market cap is $845 million. Cash and equivalents are a healthy $40 million.

Bottom line, Gartner is still the 800-pound gorilla in this space and remains substantially larger than most of its competitors, yet it's fairly priced. Exciting? No. Reasonable? Yes.

William Schaff is chief investment officer at Bay Isle Financial Corp., which manages the InformationWeek 100 Stock Index. Reach him at bschaff@bayisle.com.

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