On Wednesday, September 5, 2007, before the opening bell, Sycamore Networks (NASDAQ: SCMR) reported their financial results for the 4th Quarter and Fiscal Year Ended 2007 financial results. The markets were not pleased with the results and it sent SCMR down nearly 8% to close at $3.73. SCMR also missed analyst expectations. The markets were expecting $0.03 EPS for Q4 2007 and $46M in revenue for the same period. SCMR came in at $0.02 EPS and $38M of revenue, respectively. To seemingly make matters worse, SCMR’s Vice President of Finance and Administration stepped down. Sounds like things are falling apart at the Chelmsford, MA based manufacturer of networking hardware and equipment.
Certainly, it could be the case and SCMR could be falling apart and is dead in the water, but I want to point out some observations which suggest to me, that at the very least, SCMR is not going away.
First, since it is a short issue, as for missing analyst expectations, well, really, there is only one analyst – so, what do you expect? While it is no fun to show-off a missed quarter, one estimate – the miss does not carry a great deal of weight.
Regarding the department of the company’s finance chief, the negativity surrounding this event appears to be exaggerated. Certainly, the CFO leaving can easily be interpreted as a red flag, but it certainly does not appear that Mr. Gaynor left on bad terms. Per the conference call, Mr. Gaynor will remain with SCMR for the remainder of the month before pursuing another employment opportunity. He was not fired and it certainly seems that he did not smell a rat, as if he did, he likely would not hang around for the rest of the month. As a shareholder, you never like to see any member of your key management leave, often times, it is just the natural course of things. SCMR should be able to find a competent replacement. The headlines reading “CFO Steps Down” or “Resigns” are technically true, but imply that there is some form of accounting scandal about to come out. This can happen, as anything is possible, but per the nature of his departure, at worst, it is a neutral event.
A big element that has attracted much attention to SCMR over the past few months has been their enormous cash and cash equivalents stash, which grew to $925M from the $904M since the close of Q3 2007. This nearly $1 billion balance translates into about $3.27/share of cash, or about 88% of SCMR’s market value per their September 5, 2007 closing price. SCMR has no debt, either. Although not the ideal way to do it, SCMR continues to produce positive cash (albeit, the huge interest income makes that possible) and this provides a certain baseline to the stock price, which it seems we are close to it at these levels.
A big knock on SCMR has been their inability to produce positive cash flow from operations. Q4 2007 was no exception with a non-GAAP loss from operations of about $5.3M and an operating loss of $19.3M for FYE 2007. Again, the interest on the cash hoard has enabled SCMR to show non-GAAP income from operations. There is little discussion of the revenue growth SCMR has demonstrated the past 12 months. Granted, and SCMR blatantly acknowledges such, that the revenue growth is a result of an acquisition completed in Q1 2007. The growth is not staggering by any means, but showed 133% increase in revenue in Q4 2007 vs. Q4 2007 and 79% revenue growth when you compare the same two periods to each other. This trend, per SCMR’s numbers, appears to be sustainable and the conference call suggests the revenue growth will continue. So, here we have SCMR – showing strong revenue growth and not burning through cash to do so. That is no small accomplishment and does appear to have been ignored by the rest of the world at this stage. Consider an extreme example in XM Satellite Radio which has seen huge revenue growth, but has yet to show an operational profit. However, since they are growing – it is ok to take on debt and post operating losses. SCMR may be being a little too conservative, but imagine being able to have triple digit revenue growth, post very natural (and often widely expected) operational losses for showing revenue growth, and be able to add cash to your bank account – all without taking out loans or debt.
Another noteworthy item, which is not a big secret, is that only a few months ago, SCMR finally cleared up their stock-option backdating situation. SCMR announced that there would be some additional GSA and restructuring charges associated with the completion of the investigation and some subsequent housekeeping. SCMR clearly warned that Q4 2007 would include some additional expenses related to some of these activities. Starting fresh in Q1 2008, the GAAP financial implications of the past should, well, be a thing of the past.
Now, in the words of Yogi Berra, when you come to a fork in the road, you have to take it. That is where SCMR is at now. The healthy balance sheet and revenue growth are very attractive as is SCMR’s exposure to providing equipment to the cable companies and MSOs to service the flexible bandwidth needs of the high speed Internet and digital phone services. However, as everyone knows, SCMR has been unable to show any form of operating profit the past several years. The pieces are in place for SCMR to turn the corner and should they show an operating profit, which I believe they will in Q2 or Q3 2008 (or perhaps Q1 2008), the company’s stock price should respond very positively and very quickly.
Now obviously, SCMR needs to perform and unfortunately, some of the executive’s answers during the conference call were somewhat vague and perhaps indicate a disinterest or mild incompetence to really make this thing go.
However, even if the above is the case, SCMR is now trading where it was when it was showing less revenue growth, had less cash in the bank, and was mired in non-compliance and options back-dating issues. It would suggest that the pieces (cash, revenue growth, industry with demand) are in place for SCMR to be a potential 2x-5x bagger over the next 12-24 months. Now, granted, that may not happen and it absolutely is a gamble – but what’s the downside? Considering you are basically buying the stock at a slight premium to book value (with over 90% of that book value being in greenbacks), this looks like a win or no-lose scenario. I used today’s dip to increase my holdings by 17%.
Wednesday, September 5, 2007
Tuesday, September 4, 2007
RealNetworks (NASDAQ: RNWK) – It Looks Good, But It’s Not Great- Buy at $6.23
First, let me say that I like RealNetworks, Inc. (NASDAQ: RNWK). I think it is a safe investment – and I think at its recent closing price of $6.23, it has some upside. I feel $9-$11 is a realistic price target for this one, though it may not happen. I must admit, that I am a buyer of RNWK at these levels and have been slowly nibbling away at this one. It just looks to be a very safe play with some things coming together that can result in upside.
As for the merits of RNWK, those are no secret.
The biggest factor, I believe, that will hinder RNWK from becoming a 10-bagger is the CEO and Founder, Rob Glaser. I am not suggesting Glaser is incompetent by any means – in fact, I think he has done, at the very least, a satisfactory job of diversifying the company and expanding from a technology service to an entertainment/media company. Recall that RNWK’s primary business used to be technology licensing of their streaming media technology. RNWK still has that line of business but also has a slew of other offerings and new deals in place that can drive their more exciting business lines: music, gaming, entertainment, mobile.
Glaser, by virtue of being the founder, owns about 30% of RNWK and in 2006, from June to December, parted with over $12M of stock at around $10.50-$11.00 per share. Certainly, that is his prerogative and I do not blame him for it, but that $12M was about 12% of the $100M RNWK stock buyback program. The matter of a buyback program is nothing new. RNWK completed their 2005 and 2006 buyback programs and it appears that they will with their most recently announced repurchase program. If Glaser is not enough, note that between March 31, 2007 and June 30, 2007, institutions registered net selling of 28,427,000 shares – that dollar volume far exceeding the RNWK buyback efforts. Simple supply and demand – if there are more sellers than buyers, price goes down. To get to the point, the RNWK buyback is a good gesture but is not accomplishing the real purpose of what a buyback should accomplish. Simplistically, it is simply allowing some of the larger institutions and Glaser to part with some of his shares (albeit a small % of his shares). If there were no sellers, than the buyback would be a very bullish indicator for the stock and seem to be a prelude to higher levels.
From an acquisition standpoint, the size of Glaser’s holdings and his well publicized liquidation of shares at the $10.50-$11.00 level, even if premeditated by a company approved 10b5-1 plan, shows that he is willing to let some go at that price. If he is willing to let go of some at that price, basic logic suggests that he would be willing to take less to get rid of them all in one shot. I believe that many possible buyers of RNWK exist. Google, for sure is one of them, but it seems they are working with gBox for their digital music future. However, the RNWK gaming platform might make sense as Google has yet to offer a Google Games, a piece of the puzzle they currently do not have and their top competitors (Microsoft, AOL, Yahoo!) do. Any of the ILECs, such as Verizon or AT&T are possible suitors. The cable companies, perhaps Comcast or Time Warner, may make a good fit. Universal Group may also be a candidate to take out RNWK. Wal-Mart, Yahoo!, or Microsoft? Well, maybe, but all three already have their own digital music solutions available to their traffic base.
Unfortunately for RNWK and those looking for pie in the sky, the takeover price would likely be in the $8-$9 range – which, mind you, is still a strong premium over Friday’s closing price. However, my best guess suggests that such an offer would not be acceptable to the RNWK board and shareholders (e.g., Glaser) at this stage. I believe the opportunity is there, but really is more of a Plan B if the newly announced initiatives do not work out – consider it like a bail-out or a cushion. This will leave RNWK to fend for its own and try to drive shareholder value through its own internal efforts, which may or may not work out.
Why is the buyout price seemingly so low? Funny – who thinks a 30% premium is low? It does not seem that way, but a 30% from the company’s recent price is also 30% less than the company’s 52-week high and fractionally lower than the triple-digit price RNWK traded at during the peak of the Internet bubble.
Well, the Glaser selling spree is part of the equation as is RNWK is participating in an increasingly commodity-driven business. This element is the second aspect as to why RNWK is trading at these apparent low prices. The online music business simply is not exciting and as everyone in the world seems to get into it and the major labels become more receptive to it, it eliminates some of the premium given to the industry. Players like eMusic, which used to be public, gave way to a private equity-buyer. Napster, which is a popular name in the space, has yet to turn a profit. iTunes is the dominant leader, but only because they have the captive audience of the iPhone and iPod to basically force people to use their digital music platform. Furthermore, Apple is in the hardware business – not the digital subscription business. Even with the royalty-free usage being endorsed by some of the record labels, you are seeing Wal-Mart get into the game and will obviously do whatever it takes to be the lowest cost provider of digital music downloads around. The end-result, once Wal-Mart is in the game, the sexiness is out – hence no major market premium.
To summarize, RNWK is a solid company and it appear s there is some upside in this one based on the condition of the balance sheet and an array of new opportunities on the horizon. However, the digital music business is just not that exciting any more, now that it seems anyone can get into it. Plus, Glaser has already played his hand of the price he is willing to let go of this one. RNWK may be worth more than $6, and I agree with that sentiment, but given the status quo, it’s certainly not worth more than $10 to any potential suitor.
So, is RNWK a winner? Well, yes, I believe it is and has some upside and limited downside. Perhaps shareholders may get a boost from the plethora of new developments and agreements RNWK is moving into, especially in the gaming, music, and mobile spaces.
Just your classic case of if it’s too good to be true, it probably is. RNWK is worth $9-$11 per share – but no more – and if their new relationships do not pan out, it could be at $6-$7 for a long-time. I still like RNWK, especially at under $6.00. Be smart with this one – and be realistic – and all should fall nicely into place – particularly if your mindset is to stack nickels in your portfolio over the long-haul rather than try to shoot the moon. If you belong to the latter group of investors, well, then RNWK is not going to make you happy. The only person getting rich off RNWK will be Glaser, but the upside leaves a little bit of crumbs for the rest of us bottom-feeders. For me, for 30%-50% upside, well, I’ll bottom-feed all day.
My point is happy buying, but do not expect a double or a triple and I would advise not waiting for it. We all say we are ok with 30%-50% gains in a 12-24 month period, but considering AAPL’s double in the past year, it may be easy for your eyes to get bigger than your stomach with this one. Let’s keep it Real.
As for the merits of RNWK, those are no secret.
- Slew up upgrades, including the most recent buy rating by Pacific Growth Equities on August 31, 2007 and a $11 price target from Think Equity on August 27, 2007;
- A parade of new deals and announcements with Verizon/MTV in an effort to rival iTunes;
- Lots of cash ($4/share), nominal debt, and trading right around 1x book value.
- Significant stock buyback program in place.
The biggest factor, I believe, that will hinder RNWK from becoming a 10-bagger is the CEO and Founder, Rob Glaser. I am not suggesting Glaser is incompetent by any means – in fact, I think he has done, at the very least, a satisfactory job of diversifying the company and expanding from a technology service to an entertainment/media company. Recall that RNWK’s primary business used to be technology licensing of their streaming media technology. RNWK still has that line of business but also has a slew of other offerings and new deals in place that can drive their more exciting business lines: music, gaming, entertainment, mobile.
Glaser, by virtue of being the founder, owns about 30% of RNWK and in 2006, from June to December, parted with over $12M of stock at around $10.50-$11.00 per share. Certainly, that is his prerogative and I do not blame him for it, but that $12M was about 12% of the $100M RNWK stock buyback program. The matter of a buyback program is nothing new. RNWK completed their 2005 and 2006 buyback programs and it appears that they will with their most recently announced repurchase program. If Glaser is not enough, note that between March 31, 2007 and June 30, 2007, institutions registered net selling of 28,427,000 shares – that dollar volume far exceeding the RNWK buyback efforts. Simple supply and demand – if there are more sellers than buyers, price goes down. To get to the point, the RNWK buyback is a good gesture but is not accomplishing the real purpose of what a buyback should accomplish. Simplistically, it is simply allowing some of the larger institutions and Glaser to part with some of his shares (albeit a small % of his shares). If there were no sellers, than the buyback would be a very bullish indicator for the stock and seem to be a prelude to higher levels.
From an acquisition standpoint, the size of Glaser’s holdings and his well publicized liquidation of shares at the $10.50-$11.00 level, even if premeditated by a company approved 10b5-1 plan, shows that he is willing to let some go at that price. If he is willing to let go of some at that price, basic logic suggests that he would be willing to take less to get rid of them all in one shot. I believe that many possible buyers of RNWK exist. Google, for sure is one of them, but it seems they are working with gBox for their digital music future. However, the RNWK gaming platform might make sense as Google has yet to offer a Google Games, a piece of the puzzle they currently do not have and their top competitors (Microsoft, AOL, Yahoo!) do. Any of the ILECs, such as Verizon or AT&T are possible suitors. The cable companies, perhaps Comcast or Time Warner, may make a good fit. Universal Group may also be a candidate to take out RNWK. Wal-Mart, Yahoo!, or Microsoft? Well, maybe, but all three already have their own digital music solutions available to their traffic base.
Unfortunately for RNWK and those looking for pie in the sky, the takeover price would likely be in the $8-$9 range – which, mind you, is still a strong premium over Friday’s closing price. However, my best guess suggests that such an offer would not be acceptable to the RNWK board and shareholders (e.g., Glaser) at this stage. I believe the opportunity is there, but really is more of a Plan B if the newly announced initiatives do not work out – consider it like a bail-out or a cushion. This will leave RNWK to fend for its own and try to drive shareholder value through its own internal efforts, which may or may not work out.
Why is the buyout price seemingly so low? Funny – who thinks a 30% premium is low? It does not seem that way, but a 30% from the company’s recent price is also 30% less than the company’s 52-week high and fractionally lower than the triple-digit price RNWK traded at during the peak of the Internet bubble.
Well, the Glaser selling spree is part of the equation as is RNWK is participating in an increasingly commodity-driven business. This element is the second aspect as to why RNWK is trading at these apparent low prices. The online music business simply is not exciting and as everyone in the world seems to get into it and the major labels become more receptive to it, it eliminates some of the premium given to the industry. Players like eMusic, which used to be public, gave way to a private equity-buyer. Napster, which is a popular name in the space, has yet to turn a profit. iTunes is the dominant leader, but only because they have the captive audience of the iPhone and iPod to basically force people to use their digital music platform. Furthermore, Apple is in the hardware business – not the digital subscription business. Even with the royalty-free usage being endorsed by some of the record labels, you are seeing Wal-Mart get into the game and will obviously do whatever it takes to be the lowest cost provider of digital music downloads around. The end-result, once Wal-Mart is in the game, the sexiness is out – hence no major market premium.
To summarize, RNWK is a solid company and it appear s there is some upside in this one based on the condition of the balance sheet and an array of new opportunities on the horizon. However, the digital music business is just not that exciting any more, now that it seems anyone can get into it. Plus, Glaser has already played his hand of the price he is willing to let go of this one. RNWK may be worth more than $6, and I agree with that sentiment, but given the status quo, it’s certainly not worth more than $10 to any potential suitor.
So, is RNWK a winner? Well, yes, I believe it is and has some upside and limited downside. Perhaps shareholders may get a boost from the plethora of new developments and agreements RNWK is moving into, especially in the gaming, music, and mobile spaces.
Just your classic case of if it’s too good to be true, it probably is. RNWK is worth $9-$11 per share – but no more – and if their new relationships do not pan out, it could be at $6-$7 for a long-time. I still like RNWK, especially at under $6.00. Be smart with this one – and be realistic – and all should fall nicely into place – particularly if your mindset is to stack nickels in your portfolio over the long-haul rather than try to shoot the moon. If you belong to the latter group of investors, well, then RNWK is not going to make you happy. The only person getting rich off RNWK will be Glaser, but the upside leaves a little bit of crumbs for the rest of us bottom-feeders. For me, for 30%-50% upside, well, I’ll bottom-feed all day.
My point is happy buying, but do not expect a double or a triple and I would advise not waiting for it. We all say we are ok with 30%-50% gains in a 12-24 month period, but considering AAPL’s double in the past year, it may be easy for your eyes to get bigger than your stomach with this one. Let’s keep it Real.
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