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April 3, 2005

PalmSource suffers as core revenue declines

PalmSource, regarded as the "golden child" of the Palm empire when it was divided up in October 2003, has now become the sickly offspring of the former union. Its current share price of $9.59 reflects current prospects just as the $48 that the shares hit following the break-up reflected the high hopes invested in the mobile OS vendor.

By CBR Staff Writer

Jeanne Seeley, recently appointed CFO, promised an anguished analyst to do all she could to enhance shareholder value. But it is difficult to see what she can achieve when all the figures point to a company going backwards.

In the third quarter to February 28, the company turned income of $597,000 into a loss of $721,000 on revenue 20% lower at $17.2 million. The setback was put down to lower than expected holiday sales and a carrier dragging its feet about certifying high-end phones.

Certainly, on her forecast for the fourth quarter, it is difficult to see the company doing anything more than treading water with revenue for the year about $71 million. This is an appalling performance for a company in the dynamic mobile sector – but it’s likely to get worse before it can get better.

PalmSource’s problem is that for all the talk of its 400,000 developers worldwide, as smartphones take over from PDAs, it has been squeezed between the Symbian OS, the choice of the established suppliers, and Linux, which offers an inexpensive route to market to all the new players.

Add to the mix the determination of Microsoft to make its Windows CE a dominant force in the PDA/smartphone space, and there seems little room left for PalmSource. Even worse for PalmSource, it recently learned that its hardware partner PalmOne was considering defecting to the Microsoft camp.

PalmSource’s reaction to the difficulty it finds itself in was to pay $22.3 million in shares for China MobileSoft. This gives it a base in the most dynamic market for mobile handsets and a low-cost R&D center.

Most important of all, the China acquisition has given it an energy efficient and fast-booting embedded Linux kernel. PalmSource aims to combine this with its own application and user interface capabilities to create a consistent software platform for multiple segments of the mobile handset market.

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China MobileSoft is a tiny operation that contributed only $100,000 in revenue in its first month under PalmSource control. But it is growing rapidly. Its OS was due to go in one million mobile phones when the deal was announced. Already, this has been upgraded to two million.

PalmSource has little alternative but to move to the Linux camp in a world polarizing around major players. Whether its new growth markets will be enough to compensate for the decline in its core revenue has to be doubted. It may be some time before Ms Seeley has news that enhances shareholder value.

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