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Why small-cap star Senetas Corporation Limited was hammered today

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It hasn’t been the best start to the week for shareholders of Senetas Corporation Limited (ASX: SEN). In morning trade the encryption hardware provider has seen its share price tumble almost 9% to 10.5 cents.

Today’s decline is the result of a disappointing trading update which revealed that first-half profit before tax is expected to come in between $1.25 million and $1.3 million. This equates to a decline of around 30% on the prior corresponding period.

Management believes the drop in half-year profit is largely the result of some of its biggest customers undergoing network upgrades.

This has impacted the timing and quantity of its sales in the short term, with management remaining confident that sales will pick up once network upgrades are completed.

However, at this point in time it is unclear when these network upgrades will complete. As a result management has provided full year guidance of net profit before tax of between $5 million and $6 million, compared to $7 million in FY 2016.

Whilst this isn’t the news that shareholders wanted to hear today, FY 2017 could still finish on a high.

As Senetas’ sales are “lumpy and for a large dollar value” if these network upgrades complete earlier than expected then the company could end up delivering year on year profit growth in FY 2017.

But despite this I would probably give it a miss at this point in time. At 21x trailing earnings its shares are by no means cheap, especially if earnings growth has stalled.

For now investors may be better off skipping the technology hardware industry and looking at shares in the software industry such as Altium Limited (ASX: ALU) or WiseTech Global Ltd (ASX: WTC).

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Motley Fool contributor James Mickleboro has no position in any stocks mentioned. The Motley Fool Australia owns shares of Altium and WiseTech Global. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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