Greed and fear by asafwewe


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June 2002 – The TMT monthly

Greed and fear
Andrea Kirkby, TMT Analyst
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Greed and fear make no one’s                          simply send a blank e-mail to
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It’s a truism that stock markets are driven by        you will receive all future editions
greed and fear. Right now, companies and              of the TMT monthly
venture capitalists appear to be driven by greed –
the desire to get funding out of the market while they can – and investors mainly by fear. That
doesn’t make for great IPOs.

We have certainly seen IPOs happening, both in TMT and in other sectors, but most of them have
been at the cheap end of the range and few have performed particularly well. Companies have
been getting their money, but they have had to trim their expectations. We’ve looked at a number
of new ideas recently including ATM operator Cardpoint and sales intelligence company Vecta,
and there’s nothing wrong with the fundamentals – but we haven't always been completely
convinced by the valuations. Cardpoint has been successfully introduced to AIM, but Vecta
seems to have stalled – in both cases, great stories but a pity about the numbers.

Intriguingly, in the US corporate portals player Plumtree came out with an IPO towards the top of
its range, though it has fallen from its USD 8.50 IPO price to USD 7 over the last week.
Corporate portals does appear to be one area of IT that is still receiving a fair share of capex
spending, particularly when portals have a focus on self-service (cynically, making your
customers do your work). But then Plumtree is something of a leader in its space, even if portals
are increasing falling into the hands of the application server providers – next to Sun, IBM
Websphere and BEA, Plumtree could be exposed if it doesn’t beef up a bit. Being a leader helps,
and so does making a quarterly profit (admittedly pre-amortisation).

We’ve also seen bidders for both Teamtalk and Zen Research offering below the cash value of the
company. That looks like becoming a trend. So far, we’ve mainly seen shareholder activists
beating up on management to return what cash is left and then liquidate the business (Actinic,

Izodia) – but it seems that companies are becoming more aggressive. However, due diligence still
has to be done and we’ve already seen two bids (a third party bid for Zen, and HIT/Gullane)
getting derailed part way through.

The GEM equity funding lines that a few companies have taken up, and a fund currently being
raised by Keith Bayley Rogers, are also interesting vulture plays. Osmetech, Easyscreen, Tadpole
Technology, and Rage Software have all raised cash from GEM – at discounted prices. That
keeps the company alive but it puts GEM in at a substantial discount to the market. Neat stuff.
Meanwhile KBR is offering companies the chance to raise cash by selling their shares to a new
fund. Some of those shares will then be sold and some kept – which might present a few
companies with an unwelcome fall in the share price and a few disgruntled shareholders. But
obviously, for companies where a rights issue would be unsupported (or just too expensive) and
debt funding is impossible, that’s better than immediate death.

How are the mighty fallen
The techs have almost all left the FTSE – only Sage is left, and with Microsoft and SAP
squeezing its market, it’s a moot point how long that will be the case. At the same time the
Chamberlain brothers, architects of Durlacher’s transformation from private client broker to e-
world power-broker, have quit, and Brian Ashford-Russell’s Polar Capital tech fund has reduced
it exposure to IT and committed itself to healthcare and to cash. Certain journalists have been
crowing mightily; “That’s the end of nasty spivvy tech businesses with rubbish products. Now we
can be nice, solid, boring companies which sell things people need.” There’s a rather unpleasant
fundamentalist feel to this born-again Luddite tendency.

I’d like to see these journalists manage without their mobile phones, laptops, and Internet access.
Anyone who works in newspapers should surely remember the massive technological
transformation that hit the printing trade and spelt doom for Fleet Street – direct input by
journalists replacing the well paid militant on his Linotype. (Now it’s the journalists’ turn to go
on strike – at the Independent, anyway, where a pay freeze has annoyed the staff.)

As a born contrarian I love looking for sectors where the market’s received wisdom just doesn’t
reflect reality. Last time this happened was in 2000 when I noticed that breweries were trading on
discounts to NAV above 50% and the market said that beer sales were declining. That was only
true if you looked at Bass and Whitbread. Some of the smaller breweries – Young’s, Fullers,
Greene King – were pushing out more and more of their excellent ale at the same time as
reducing their brewing costs. It did help to be a real ale drinker, but as a natural contrarian I
waded into Burtonwood, Belhaven and Wolves and Duds.

Now, I’m beginning to feel that the same has happened to the techs. Some are trading at a
discount to cash. I’m not buying the sector as a whole – far from it – and hardware still looks an
appallingly bad subsector, but in software there are some plays that look set to pay investors
excellent returns. In fact there are some classic value plays in the sector. Never mind the top-
down strategy, for the value investor there are some great stocks out there waiting to be

“No one wants or needs technology” is the message we are getting from investors and press. That
is not true. Internet advertising is still rising. Companies are still spending on business
intelligence software and portals. Internet penetration is still on the way up (the world Internet
population grew 18% in the year to April 2002). Bricks-and-clicks companies are building e-

commerce into their corporate strategies. Technology is not dead – it’s just sleeping. And some of
the sector is beginning to wake up.

And by the way, anybody who thinks ‘nice solid products’ make ‘nice solid companies’ needs to
think about some of the disasters of the late 80s – or even more recently. Many of these ‘nice
solid products’ advocates are buying banks and insurance companies. Remember British &
Commonwealth? BCCI? Or utilities, nice, safe, solid, boring stocks… like Enron.

We’ve had a tech bubble, which gave tech companies an effective zero cost of capital and
encouraged frivolous start-ups. But those are being cleaned out of the system gradually. At the
Butler Group Corporate Portals conference I attended this week, someone from Sun told me that
there used to be 300 vendors in the portals market. Now, he said, there are only 100. He’s
expecting it to fall further. Good news for the survivors.

We’re already beginning to see that work in the Internet service sector. As KPNQwest falters, BT
Ignite and Colt are scrabbling for customers – suddenly, there’s a market out there that needs
these services desperately. The competitive landscape is changing. Spotting the survivors is
getting easier. And prices are, in many cases, unreasonably low.

Rebuilding value
Enough ranting. Let’s get on to some specifics. Back in January I mentioned Xansa and most
other consulting groups as overvalued. At the time, Xansa was still on a 30 plus multiple of
earnings. Since then, we’ve had an accounting scare from some of the outsourcing companies,
and a spate of profit warnings. There are now some remarkable bargains in consulting. Xansa is
now on just 13 times next year’s earnings, though that does assume there will be a recovery. And
Xansa, despite a couple of warnings, has been a very solid business indeed over the years – and
has just finalised its £250m contract to outsource BT’s accounting services. This may not be the
bottom but the valuation now suggests that we are close to the bottom. And it’s cheaper than, for
instance, Axon – which has less recurring income and where there’s a definite suspicion the
company has lost its way with too much e-business and not enough SAP.

Telecoms is beginning to see sporadic buying sprees, though none have yet lasted more than a
couple of days. A lot of analysts still don’t like Cable & Wireless or Vodafone. Releasing a new
record low target price for Vodafone has become almost as popular a sport among analysts as
World Cup football. However, current prices appear to leave room for outperformance.

Cable & Wireless will probably make a loss after goodwill for the next couple of years, but has a
cash pile and is not losing a lot before goodwill. The current share price effectively valued its
Global operations at zero. But as similar operations close down, Global could win business – and
if it is one of the survivors, it should see utilisation increase. C&W is on an EBITDA multiple of
3.7 against BT on 6.5 and Kingston (also lossmaking) on 9 – Colt Telecom is on an amazing 24
times. That doesn’t give too much downside. And there’s some possibility of a special dividend at
some point.

As for Vodafone, the market consensus now appears to be that it has become a utility and will
only ever produce utility rates of return. The case is slightly less convincing than for C&W as
Vodafone doesn’t have the cash pile. But it does have leadership positions in a number of
markets. The main bear point is the fact that it’s overpaid for them – particularly 3G – and it
hasn’t taken enough writedowns to satisfy the pessimists. But it looks cheap enough to rebound in

the short term. The fact that the EU has now allowed all kinds of spectrum trading, network
sharing and other alliances on 3G networks – and has even suggested governments might extend
the licences – will also help mobile operators out. As for the eventual success of new networks,
the play to watch is Hutchison’s UK launch of 3G this autumn.

Mobile is really difficult to guess at the moment. Carphone Warehouse, against the odds, had
good results – but that may have been just a market share move, as the group stated it had upped
its share in the UK from 12% to 20%. Blackberry has now been launched, and that’s really going
to be the first time in the UK that decent wireless applications have been available on a wide
scale. But at the same time, BT is apparently lining up to spoil the 3G market with a wireless
LAN product – offering 3G style services in hotspots such as airports and hotels. (This sounds a
bit like the failed Rabbit network which relied on your being within 100 metres of a rabbit point.
You never were, of course...) On the whole, fixed networks look a better bet.

Media: shuffling the pack
Lots of activity going on in media and telecoms this month. Finally, public service broadcasting
and red-in-tooth-and-claw payTV climbed into bed together to make a grab at ITV Digital’s
assets. Though there were strong rumours that it would happen, it’s still surprising to see the BBC
and BSkyB teaming up; countercultural for both of them. That will effectively consolidate control
of the multiplexes. (Intriguingly, BBC took the peak time lead viewer share away from ITV for
the first time this month, with a strong performance from drama – it had already taken the ‘all-
hours’ leadership away. So with the BSkyB package on the one hand and the Beeb on the other,
ITV is really losing its viewers – and that will inevitably impact on its advertising. No wonder
Carlton and Granada are claiming that they will fight back. However, they’re doing so by
ditching regional identities – a high risk strategy when dealing with the campanilismo of many
viewers – and it will be a real struggle from here on.)

Meanwhile Telewest looks as if it will have to give in to the inevitable and consider some sort of
arrangement with NTL, as we suggested last month, leaving a single cable player covering most
of the UK and perhaps – just perhaps – offering a viable payTV alternative to satellite. And
Havas and Cordiant announced that the wedding was off before they’d got round to issuing any
invitations – but surely that exposes both of them to the likelihood of a mating on the rebound?

On the European scene, the major sagas continue with Kirch finally submitting to fate, and
Newscorp buying control of Telepiu from Vivendi. One of Vivendi’s problems is its minority
stakes – for instance, it consolidates Cegetel’s P&L but because BT and SBC are the other
shareholders, it can't get its hands on the cash flow. Vivendi is a bit strapped for cash so even if
the other shareholders were willing, it wouldn't be able to buy them out – and surely no one in
their right mind would take Vivendi shares?

The mobile and payTV landscapes are full of these joint venture and consortium companies. No
doubt we will see other deals like this – asset swaps as well as buyouts. Most of the European
telcos are still highly indebted and France Telecom fell into the red after taking a major hit on
investments – including £3 bn on NTL. France Telecom is also stuck with a minority investment
in German mobile operator Mobilcom, though at least it hasn’t been forced to buy out Gerhard
Schmid’s stake, which would have triggered a full bid it couldn't afford.

Then we’ll see the bones of KPNQwest being picked over. At the same time, new consortia are
forming – for instance Columbia Tristar with Commerzbank and WAZ Gruppe making a move
on Kirch. What’s interesting is the big difference between ITV Digital and Kirch - in the one

case, little interest, and in the other, 60 different companies all bidding for the business. The
difference is that Kirch was a viable, quality business with too much debt and some dumb
investments – whereas ITV Digital was a stuffed monkey.

Demergers are in favour. Chorion, for instance, split off its leisure and media businesses.
Ambient is trying to reduce its stakes in Moneybox (ATMs) and WMRC (specalist business
information). Kewill got rid of its ERP business, selling out to Exact and retaining only its e-
commerce related activites. In every case these companies have got it right – the businesses don’t
belong together. But the trouble with such demergers is that they run the risk of creating two
companies that are just too small to get any attention from press, analysts or fund managers.
Some institutions will just sell off their stakes once a stock’s market capitalisation gets below a
certain level. So instead of one company with illogically yoked together activities, we end up
with two quite good companies neither of which have a stable investor base or any way of getting
their message through to shareholders.

Another intriguing facet of the demerger boom is that the company doing the demerging isn't
always committing itself to staying out of that market. BT demerged mm02 and sold its
directories business Yell in order to reduce its debt pile. That worked. Now, BT looks like getting
back into the mobile market, and there are also rumours that it will buy Thomson or the moribund
Scoot in order to get back into directories. It’s unbelievable these businesses could have been
floated without a non-compete, but it appears to be true.

Multimedia’s day has come
There have been some quite reasonable results in the media sector. Ten Alps came out with a
profit quite a bit more than had been expected, and a pretty upbeat statement for this PR-to-
production-to-parties media services group. Sanctuary Group did well too, though the market
seemed unimpressed; a good performance in recorded music is more than EMI has managed to
deliver for a while, so Sanctuary must be doing something right. The PE is only about the mid
teens, representing reasonable value if the group can keep moving forward.

And EMAP had a quite reasonable set of results with a lot of rumours about whether it would
double the size of its radio business or demerge it totally. I doubt the demerger story is correct,
because what EMAP is doing is to make many of its magazines into multimedia properties.
Smash Hits is an obvious property – a music magazine becomes a music channel. Q has TV too
and Kerrang! is now being subjected to the same treatment.

The key seems to be – first identify your target ‘usership’ (viewers, readers, listeners, surfers) and
your target advertising market. Make sure the two match. Then find as many media as you can to
extend that brand. (What Ten Alps is doing is similar – supporting brands whether through PR,
events creation, or TV sponsorship deals.)

That’s why we’re feeling a tad bullish about the prospects for local TV. Einstein Group has
managed to acquire local TV licences – in most cases without much in the way of operations (and
also without too much in the way of costs). The concept is to get together with radio or
newspaper groups to launch what Einstein calls ‘radio with pictures’ – a really local, low cost
concept. ITV has largely given up on the truly local advertiser – the carpet warehouses, local
furniture stores and curry shops – leaving the market wide open. Now that Carlton and Granada
seem to have given up on regional news (London Today has disappeared to make a ‘more
coherent lunchtime schedule’) as well and have decided ITV will no longer show regional

television brands, the regional viewer may well head for a more relevant local news source. Local
TV works in other countries – maybe at last we have the right conditions for it to work here.

Warnings have abounded recently about the buy-to-let market and the number of feckless private
landlords who have flooded into it. Yields have been on the way down for a while and if interest
rates rise, property prices will tank as well.

In software, on the other hand, rental seems to be an idea whose time has come. Aveva, the
engineering CAD and database supplier, saw a profit warning a while back as orders came in –
but came in for ‘rental’ rather than outright purchase. But the share price hardly moved – and the
results were a little better than expected. The company is now going wholeheartedly for term
payments rather than one-off licence payments, and the payoff should be that earnings become
more predictable as recurring income makes up well over half the revenue.

Knowledge Process Software (OFEX) is also using flexible pricing to get long term recurring
revenues on a smaller upfront payment. It’s some way behind its original projections, but looks
interesting since a deal with AMEC could give it £1-3m revenue over the next few years – it only
made £209,000 last year. KPS uses data mining techniques to monitor and analyse processes such
as oil drilling, energy management, and oil refining, in order to optimise the processes and
improve efficiency. This is real world stuff and the ROI case should be compelling compared to
‘white collar’ software such as KM or content management.

But transitioning to a rental base, as the example of Aveva shows, is rarely smooth. Rental
cannibalises the existing stream of licence income and reduces the revenue that can be recognised
in the year – even if the total contract values remain the same. But once that transition period has
been successfully (though sometimes a bit rockily) navigated, you have something that looks
more like a recurring income play and less like a back-end-weighted, single licence deal, big
ticket sale. In the current market, that has got to be good news.

Footie crumble
While England has stayed in the World Cup so far, English football at home is in a dire state –
mainly due to the collapse of ITV Digital. Sean Bean has turned underwriter (is he FSA
registered?) to raise £4m for Sheffield United, replacing the money the club would have got from
ITV Digital; Bradford City is in adminstration; Nottingham Forest had already put all its players
up for transfer last year, so ITV Digital exacerbates a crisis that was already simmering. And
West Bromwich Albion is advertising in the back of the Daily Mail for a new managing director;
Doug Ellis need not apply.

It’s not just ITV Digital that hurt the smaller clubs. Since the EU ruling on Bosman transfers,
available income from transfers has been much lower – and for many clubs that gave younger and
less exposed players a chance, that was a significant slug of their revenue. Smaller clubs don’t
have access to the sponsorship and kit sales revenues that the larger Premier League clubs can get
– nor can they exploit their brands in the way Man United has done. So they are now once more
reliant on the gate – and that has rarely been enough to keep the wolf from the door.

Man Utd is trading about the middle of its 52 week range. It’s just about the only FC not trading
close to its lows. Chelsea Village has a £30.5m market cap and £79m shareholders’ funds, and a
big London site that represents an intriguing property value. Aston Villa is trading at a one year

low and looks to be on a 20% discount to net assets. It might actually be worth looking at some of
the Premier League teams as turnarounds – but the case is not proven yet for any of them.

Never mind. England fans will no doubt be glad to know that after the failure of the Kirch media
empire, the Bundesliga has similar problems.

Let’s branch out a bit. Online betting has been very popular recently on the basis that World Cup
footie will have us all putting money on dodgy teams like Argentina and France to win and
leaving the bookies very happy. Of course most English punters will put their money on England;
that could still leave the bookies a lot happier than a mass gamble on Brazil. Seems to us this is a
very crowded market. There are undoubtedly a few survivors around the place, but moves against
offshore betting in the US and Hong Kong, together with increasing ‘bricks’ bookies’ presence on
the net (Ladbrokes not only has its own site, for instance, but has just sponsored a Yahoo! betting
service), will make it difficult for any but the bravest to stick it out.

Footie agents have also been popular and generally, sports related stocks seem to have attracted a
lot of positive comment recently. We on the other hand think that sports could be the new dot-
bombs. One thing is certain – if clubs are struggling, footballers’ wages are going to have to come
down. And since it is the media which has bankrolled sport for the past decade, if the media
companies are struggling, rights payments will continue to fall. We don’t see much good news in
this area in the foreseeable future.

No such thing as a free lunch?
The world of Internet content has also been changing. Citywire, a site I’ve always enjoyed, seems
less busy than it used to be. There’s a reason for it; it’s started offering paid-for content. It has
also launched a print magazine, following the honorable tradition of Bloomberg which also
moved from online media into print. Interestingly, it’s not gone 100% paid-for – nor has the FT;
as far as I’m aware the only site which offers pretty much no free content is the Wall Street
Journal. But paid-for is certainly increasing its percentage of total information content.

Again, anyone who has covered the newspaper market knows what’s going on. We’ll end up with
a mix on the web the same way we have ended up with a mix between freesheets and paid-for
papers. Some freesheets make money, others fold. Some paid-for newspapers make money,
others fold (remember Maxwell’s London Daily News?), and then there’s the Independent which,
so far, has done neither. E-publishing has been dominated by ideology for too long, with analysts
taking sides either side of the ‘must-be-free’ and ‘has-to-be-paid-for’ divide; now is the time for
companies to be pragmatic and offer the right mix of teaser, free content, and credibly valued
paid-for information.

A nice piece of free content – and viral content, at that – that we’ve seen recently is Jon Snow’s
‘Snowmail’ to Channel Four news viewers. It’s free, it currently goes to at least 5,001 readers
(that was 5,000 when I first read about, plus me), and it hooks them into listening to Channel
Four News.

We’re trying to emulate that with the TMT monthly. However, currently we are an order of
magnitude less successful than Jon Snow, though we are equally opinionated. Please help us in
our enterprise of becoming a successful tree-saving meme by forwarding the TMT monthly to
anyone you think might be interested.


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