No Longer Old Hat?

Remember Red Hat (RHAT )? Once fodder for cocktail-party buzz, the stock zoomed to a 151 high in December, 1999, four months after a dazzling Nasdaq debut. By Sept. 17, 2001, it traded at a lowly 2.4. Champions went mum until recently: Shares of the Linux operating system distributor have leapt to 7 since Nov. 27, when IBM said it would collaborate with Red Hat to develop software and services for its fleet of eServer products. IBM carved Red Hat a slice of its fat $1.3 billion budget this year for projects using Linux--an operating system that allows users to customize software rather than buy a one-size-fits-all product from, say, Microsoft.

So far, Wall Street isn't impressed by the recent gains: Four of five analysts who cover the stock are still bearish, according to Zacks Investment Research. But at least one gutsy stock-picker says Big Blue's deal signals that Red Hat has longevity. Contrarian Bernie Schaeffer of Schaeffer's Investment Research issued a special bulletin to his newsletter subscribers recommending Red Hat, which he thinks could trade at 20 in a year. "I make no bones about it being risky," he says. "But it could be one of those situations where the potential rewards are explosive."

While Red Hat is the global leader in Linux-customized technology--its market share is 60%--it faces fierce competition from Microsoft and Sun Microsystems' server-based products. This year could mark a turning point: Blue-chip users increasingly are choosing flexible operating systems and opting to sidestep steep up-front license fees. Further, Red Hat beat analysts' predictions with earnings before noncash items, like goodwill, of $1.3 million, or a penny per share, for the fiscal third quarter, compared with breakeven results the prior quarter. Management says the fourth quarter will be profitable.

By Mara der Hovanesian

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