KUHN CAPITAL Saturday, December 16, 2017
Dispatches from the front

The Spring of IPO Tech Brides
(5/19/2004)

Does IPO volume follow rising sales, as M&A activity does? If so, should this Spring's crop of IPO tech brides inspire investors to reach for their wallets? Well, it depends on the IPO.
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If we were forced to name a single factor that best explains the rise and fall of M&A activity, we’d nominate demand. That is, rising or at least stable sales volume does wonders for both buyers’ confidence and sellers' exit values.

Sure, a lot of other factors play important roles, like stock prices, interest rates, the attitude and demands of regulators (think of Sarbanes Oxley as an M&A accelerant and the FTC as an M&A depressant), the willingness of banks or mezzanine vendors to play, and whether conditions in a specific industry sector encourage or discourage consolidation. But that said, sales volumes this Spring have in general been rising like Vermont sap, in turn promoting a certain contained exuberance -- restless animal spirits if you will -- among the senior management class.

Does rising revenue also explain this Spring’s freshet of blushing tech IPO brides? Actually, it’s recently looking more like a torrent, at least compared to the Sargasso Sea of the last few years.

In fact, not until March 30 did this year’s first dot.com slip into the market: Marchex (Nasdaq: MCHX), a vendor of online merchant technologies and services run by a 37-year old who seems to be a natural-born promoter. The company’s business is based on two recent acquisitions that cost about $25 million, and last quarter the company generated sales of about $7.5 million with a net operating loss of $1.2 million.

Undeterred, Marchex stock came out at $6.50 per share, soared briefly to about $13.00 and has since settled down at about $11.50 for a current marketcap of about $275 million. That would be a marketcap multiple of seven times forecasted 2004 sales. If Marchex characterized the overall complexion of this year’s IPO crop, we’d be worried.

It doesn’t, so we’re not. But the five Internet and/or data companies we’ve been tracking that are now readying themselves for the Spring parade are hardly without investor risk

Google, perhaps the decade’s most ballyhooed IPO, filed going-public documents with the SEC on April 30 that anticipate a $2.7 billion stock sale. The company reports 2003 sales of about $960 million (up 177% from the prior year) accompanied by a net profit of about $105 million. This strong act has been followed by 2004Q1 sales of $390 million with a net profit of $64 million. So Google anticipates a marketcap multiple of about 1.7 times annualized Q4 sales. Now, this multiple seems a lot more convincing than that of Marchex. Of course, a Dutch tulip buyer’s mentality at auction could drive Google shares to Marchex nosebleed heights or beyond.

Salesforce.com, which nearly single-handedly has proved out the ASP sales model, plans to raise about $85 million for the sale of 10% of its stock. With $96 million in last fiscal year sales, a history of rapid sales growth, and usually profitable quarters, Salesforce’s planned marketcap of $850 million translates into a multiple of 10 times sales. Richer than Google and Marchex both, this marketcap breeds much caution, but at least there’s a real business under the covers.

Lindows, the vendor of open-source Linux software positioned as an alternative to Microsoft’s high-priced Windows operating system, plans to sell stock worth about $58 million. An embattled player with a mere $2 million in 2003 revenues, a net loss of $4.1 million, and a confession by management that it expects “to continue to incur operating losses over the next several years,” investing in Lindows may qualify as a flyer even by 1999 standards. We wish them the best, though, in their quest to offer the market an alternative, any alternative, to grasping Microsoft licensing gambits.

Morningstar, the Chicago-based rater of mutual funds, plans to tap into stock investors’ money to fund its new foray into the far more competitive business of analyzing stocks for institutional investors. Analysts put the company’s marketcap at about $550 million. With 2003 sales of $140 million, up 27% over 2002, and negative net income of $12 million with an earlier history of marginal or negative earnings, the investment looks a bit precarious to us.

Another Chicago story, Navteq -- the folks supplying the drive-time and directions data behind virtually any digital mapping service you use -- proposes for your consideration a $500 million stock offering. Analysts expect the company’s marketcap to range from $1.5 billion to $2.5 billion based on rapidly-growing 2004 sales north of $400 million and a pre-tax ROS of about 20%. If in fact that marketcap holds, Navteq would appear to be among this Spring’s most solid IPO plays, perhaps more so than Google in which, with its household brand, investors run the risk of auction fever.

So yes, we explain this Spring IPO bulge as being largely driven by expectations of continuing sales increases. And while the expected pricing of these newly-minted IPO shares doesn't inspire as much confidence as we’d like (with the possible exception of Navteq), at least this time around the bankers are asking us to invest mostly in real businesses.

Ryan Kuhn


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