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Virtual Stock Portfolio Update: September 2005

In September my virtual stock portfolio was down 1.6% compared to the NASDAQ's 0.2% gain.  On average my stocks were down 1.4%.  My portfolio should have done much worse as the online gambling sector, which I was long to the tune of about 1/3 of the portfolio, got clobbered by a poor earnings announcement from Party Poker, but fortunately my shorts were up 5% which cushioned the blow significantly but not enough.

Overall, my portfolio is up 19.5% YTD vs. a decline of  0.9% for the NASDAQ, so I am still nicely ahead of the market.  That said, I have decided to make some fairly major changes this month after a number of months of relative calm in order to better position the portfolio for the Q3 reports and to get some new blood into the portfolio.

Long Picks

: SPSS Ticker: SPSS
Sub-sector: Business Intelligence
Investment Thesis: SPSS is a player in the business intelligence space with a particular emphasis on predictive analytics, something that is particularly hot right now. The stock has been battered by a restructuring that the company went through last year as well as an accounting restatement. My thesis is that the new product set is strong and the accounting trouble is overblown.
Performance: Since 4/30/04: +68.8%  Sep. vs. Aug.: +11.2%
Comments: SPSS closed the valuation gap and now acutally trades at a premium to the group.  They had a good product cycle in Q3 with a major release of their core product so they should have a good Q3, however the stock seems to have already priced this in.  With the stock trading at a premium to the BI group its recovery is now complete so I am going to close out this position even though the stock is trading very nicely right now and may still run a bit.

Company: Stellent Ticker: STEL
Sub-sector: Content Management
Investment Thesis: Stellent is a relatively sleepy, but well established, content management company that is attractively priced.  I like the content management space as a consolidation play.
Performance: Since 6/30/04: 0.4%  Sep. vs. Aug.: +5.6%
Comments: I've held this position for over a year and it has gone exactly no-where. In retrospect, I added this stock to the portfolio about a month too early. Ever though I still like the content management space, I am going to close out the STEL position because the stock just can't seem to get any momentum and I think there are more attactive names in the same space at a better price.

Company: Neteller Plc. Ticker: NLR.L
Sub-sector: Financial Services
Investment Thesis: Every portfolio needs a flier and this sure counts as one. Neteller is Europe/Canada’s answer to PayPal and it has been making a killing by servicing markets, particularly on-line gambling, that PayPal has been pressured into exiting by the US Justice Department.  I know, I know, this is not a software stock, but I still follow on-line financial services quite closely and I feel compelled to point out this stock because it is such an attractive buy.
Performance: Since 6/30/04: +409.1%  Sep. vs. Aug.: -5.5%
Comments: This stock has had quite a run.  I still can't believe that I added it at roughly 8X earnings.  While it still only trades at 22X earnings, thanks to last month's carnage in the online gambling sector, 22X earnings is now a healthy premium to the rest of the group.  As my grandmother once said, you don't make any money if you don't sell, so with the stock at a premium to the group, it's time to sell.

Company: Sportingbet Plc. Ticker: SBT.L
Sub-sector: Internet Gambling
Investment Thesis: Sportingbet is the largest on-line gambling operator in the world. At 23-25X 2005 EPS this stock is still attractive relative to its growth rate (25-30%) and especially attractive relative to other Internet commerce plays. I don’t like the big options overhang in this stock or the poor margins (due to sports betting business) but this is a chance to own a major player in an important on-line commerce player at an attractive valuation.
Performance: Since 11/30/04: +86.7%,  Sep. vs. Aug.: -12.2% 
Comments: SportingBet was hurt this month by Party Poker's poor earnings announcement as well as rumors that it was planning a very expensive acquisition of Empire Poker.  With Party's implosion, SportingBet is now trading at a significant premium to the group for no apparently good reason.  In addition, the price they were apparently considering for Empire indicates that the management team isn't too concerned about dilution.  Even though that deal is dead, I can't help but think that SportingBet is due for some significant multiple contraction as it comes back into line with the other online gambling players.  As a result I am going to close out my long position and add SportingBet to the short side of a paired trade I will discuss a bit later.

Company: Microstrategy Ticker: MSTR
Sub-sector: Business Intelligence
Investment Thesis: I like the BI space in general and have been keeping my eye on Microstrategy.  This has recently been one of the cheaper stocks in the space, yet it also has one of the better product portfolios and market positions.  From what I hear, businesses are still spending big bucks on BI and MSTR should be a big beneficiary.
Performance: Since 3/31/05: +29.5%,  Sep. vs. Aug.: -7.5%
Comments: I am going to hold on to MSTR for the time being.  Thanks to its stock repurchase plans it is probably the cheapest major name in the BI space right now.  There are a lot of people betting against the stock (25% of the float is short), but while the Q3 report may be tight, I think MSTR will benefit from the strong market for BI in general.  If they upside surprise the stock will see a huge jump as the shorts squeeze.

Company: FireOne Group Ticker: FPA.L
Sub-sector: Financial Services
Investment Thesis: FireOne operates an Internet payment service very similar to Neteller. It is used primarily by on-line gamblers to transfer money around.  I I added FireOne to the portfolio because I wanted to maintain overweight exposure to the these kind of Internet payments plays without putting all my eggs in one basket (Neteller). Now that I have closed out Neteller this will be sole exposure to Internet payments.  I am holding on to FPA because it trades at a discount to Neteller.
Performance: Since 7/31/05: -0.4%,  Sep. vs. Aug.: -17.9%
Comments: This was the portfolio's biggest % decliner in September due primarily to Party Poker's implosion.  It was probably hurt more than others due to its poor float.  It should be able to bounce back a bit this month as it now trades at a discount to Neteller.

Company: Actuate Ticker: ACTU
Sub-sector: Business Intelligence
Investment Thesis: Acutate is a business intelligence company with a particular focus on enterprise reporting.  I had a long postion in ACTU in 2004 and lost money on it, but I think the stock is back on the upswing now thanks to an improved product line and focus.   ACTU trades at a healthy discount to rest of the BI group (kind of like SPSS did at one point) and every penny of upside in its EPS could really move the stock.
Performance: Since 9/30/05: NA  Sep. vs. Aug.: NA
Comments: Very makable EPS estimates and a strong overall BI market suggest that this could go to $3/share with ease.

Company: OpenText Ticker: OTEX
Sub-sector: Content Management
Investment Thesis: OpenText is a content management company that went on an acquisition binge in 2003 and 2004.  The stock suffered from all the M&A related charges and fallout but managment now claims that they are going to resolutely focus on EPS growth.  OTEX trades at a healthy discount to the rest of the content management group and has a broad product portfolio.  Integration snafus could trip them up, but the low multiple on the stock should limit any potential damage.
Performance: Since 9/30/05: NA  Sep. vs. Aug.: NA
Comments: Watched this have a strong month in September so I hope I am not late to the party.

Company: Cryptologic Ticker: CRYP
Sub-sector: Gaming Software
Investment Thesis: Cryptologic is a provider of gambling software to online casinos and poker rooms.  They license their software to numerous companies in return for a cut of the take.  About 70% of their revenues are from casino related software sales and about 30% from poker related sales.  Since they are a technology provider and not an operator they actually are listed in the US and do not appear to be in danger of violating any online gambling laws.
Performance: Since 9/30/05: NA  Sep. vs. Aug.: NA
Comments: Trades at 13X EPS with a 1.2% yield.  Much cheaper play on online gambling than SBT and less pure play exposure to poker.  One of the only "pure play" online gambling stocks you can trade on a US exchange.

Pair Trades
Long: Party Gaming Ticker: PRTY.L
Short: SportingBet Ticker: SBT.L
Sub-sector: Online Gambling
Investment Thesis: Party gaming is the largest online gambling company in the world with an exclusive focus on poker.  Party went public this summer at 100p and got up to 140p before getting creamed when it talked down its revenue growth prospects on its 1st earnings call.  The stock is now below its IPO issue price and at this level it is not only at 12X earnings, but 12.4X cashflow (of $500M/year) for a cash flow yield of over 8%.  The concerns about Party's growth (and online poker's growth in general) are overblown.  Empire Poker, which is a "skin" of Party (which means it not only uses the same software as Party, but pools its users with Party) had a very respectable quarter which appears to indicate that Party's problems were very much company specific and likely had something do to with all the distractions surrounding it IPO.  In comparison to Party, SportingBet is trading at a substantial premium (21X vs. 12X) even though much of the excitement surrounding SBT has to do with its acquisition of Paradise Poker (the #5 poker room).  It will be tough for SBT to sustain the premium to Party given Party's superior margins, cash flow and growth rates.  With the paired trade the legal risk facing the sector is minimized because both would likely suffer equally from any legal action.  Up until now these kinds of trades didn't make sense because all the names traded pretty much in line with each other, but with Party's somewhat unwarranted implosion this is a perfect opportunity to put on such a trade.
Performance: Since 9/30/05: NA  Sep. vs. Aug.: NA
Comments: Pair trades are often all about multiple compression.  Given that both names only formally report twice a year it may take awhile for this to play out, but this feels like a pretty conservative way to play this space.  The more adventurous may want to just go long on Party given that it will probably start a heafty dividend/buyback program early next year.

Short Picks

Company: Autonomy Ticker: AUTN
Sub-sector: Content Management
Investment Thesis: Autonomy is a UK-based purveyor of advanced enterprise search software, a space I know well from some of my VC investments. The enterprise search space is crowded and getting even more competitive with the entry of folks like Google. Autonomy’s secret sauce, its categorization software, is increasingly being duplicated by it competitors. Autonomy continues to trade at a premium to the market. This premium appears to be largely an artifact of the fact that autonomy is a bit of a cult stock in its home country of the United Kingdom.
Performance: Since 1/26/04: -9.3%  Sep. vs. Aug.: 4.4%
Comments: Good lord.  At one point I was up almost 50% on this short, now I am down almost 10%.  I guess I have gotten a good lesson in not being greedy because the stock went crazy this summer (along with anything else search related).  The whole search enterprise search space is incredibly frothy right now (witness the madness with CNVR), but there's no use trying to fight hype.  In addition, AUTN is buying revenue to make it look like they are growing and no one seems to care.    The movement makes no sense to me and now AUTN is back to trading at loopy levels (7.8X EV/Sales) however rather than wait for vindication, I am going to cover and wait for a better time.

: Wave Systems Ticker: WAVX
Sub-sector: Security
Investment Thesis: I first encountered Wave when I wrote my initial analyst report on Wall Street in the mid-1990s. Wave has remained in business largely by claiming that it is developing revolutionary security technologies, kind of like a bio-tech company that never gets out of trials. With a grand total of $1.4M in revenues over the last 3.5 years, a $4M/quarter cash burn rate and only $4M or so in the bank, a day of reckoning is fast approaching.
Performance: Since 10/1/04: -2.2%  Sep. vs. Aug.: 9.8%
Comments: After a very suspicious run-up in advance of its latest PIPE (done at a whopping 20% disccount in fully registered shares) WAVX has predictably traded back down.  The only thing left supporting this company is a group of delusional retail investors (they call themselves "Wavoids") who for some reason believe the promises of a management team that has blown through $275M in capital and had $258K in revenue to show for it last quarter.  The company continues to burn through cash at a clip of $1-$1.5M/month without any real restructuring or sign of urgency. A VC would get shot for running a company like this.  At some point, someone has got to figure out the emperor isn't wearning clothes.

Company: Manugistics Ticker: MANU
Sub-sector: Supply Chain
Investment Thesis: Manugistics is in a tough spot strategically and financially. Strategically it's facing increased competition from the big ERP players who are successfully bundling more and more supply chain functions into their core offerings.  Financially, Manugistics has a crushing debt load and a negative tangible book of $55M.  It's going to be very hard to pull this company out of the tailspin.  The debt holders may ultimately convert to equity and save the day, but things will have to get a bit worse on the equity front before they are willing to talk turkey.
Performance: Since 2/28/05: +1.5Sep. vs. Aug.: -5.8%
Comments: Reported a very poor Q2 with license revenues continuing to fall off a cliff.  However, positive momentum at ITWO (another fallen supply chain angel) has attracted a lot of retail investors looking for a flyer who apparently don't realize that $170M in convertible debt is due in 2007, thus the stock traded down only briefly after its dreadful report.  It makes no sense to hold this position in the short term if the crowd is going to ignore terrible fundamentals and bet on the come, so I am trading out this month and will look to get back in once it is clear nothing is going to magically appear to pay off the debt.

Company: Kana Software Ticker: KANA
Sub-sector: CRM
Investment Thesis: Kana has been in a long decline ever since the bubble burst.  Once a CRM darling, it is now generating only about $2M in license sales/quarter and $10M in total revenues.  It continues to lose millions a quarter despite having only ~$10M in cash.  In addition, the CEO recently left in the wake of getting censored for expense account abuses and the company hasn't filed a 10K or 10Q because they have new auditors that are taking much longer than expected.  The new CEO is going to have to undertake a major restructuring to get this place profitable.  This company may ultimately experience the same fate as Broadvision in that it goes private at a big discount.
Performance: Since 7/31/05: 0%  Sep. vs. Aug.: 0%
Comments: Raised $4M in common stock financing at the end of September with another $1M in committements pending the successful filing of their 10Qs.  The investors are putting in the money at market with warrrants that are out of the money, so they must think that things aren't that bad.  I am starting to think that this may get sold at market, so I might as well cover my short and move on to greener pastures.

Company: Citadel Security Software Ticker: CDSS
Sub-sector: Security
Investment Thesis: Citadel offers a subscription service to help companies spot security vulnerabilities.  It's a good idea, but a lot of other companies including a number of private companies offer the same service.  Lately Citadel's business has been falling off a cliff.  They are buring cash to the tune of $5M/quarter and yet the management team hasn't done any major cost cutting.  They have bank loans of $3.5M which are due this month and no way to repay them short of a massively dilutive financing or fire sale.   As a VC, I can tell you first hand that it is incredibly difficult to turn around this kind of situation even if you get some product momentum.  I haven't seen a single company in this kind of shape pull it out.
Performance: Since 9/30/05: 0%    Sep. vs. Aug.: 0%
Comments: Might be a month late on this.  It was down 30% last month as people started to realize that the rapidly approaching object wasn't a new wad of cash, but a big brick wall.  Their commerical bankers have got to be awfully nervous. I am betting on a very dilutive financing at something like $0.30/share.

Company: Emerge Interactive Ticker: EMRG
Sub-sector: Vertical Applications
Investment Thesis: Do you need software to help trade and manage cattle?  Apparently not many other people do either, otherwise EMRG wouldn't have generated only $335K in revenues last quarter.  With cash finally running out after $205M in losses this company should be headed for the slaughterhouse shortly.
Performance: Since 9/30/05: 0% Sep. vs. Aug.: 0%
Comments: I like my steaks almost as well done as this stock.

Company: Entrust  Ticker:  ENTU
Sub-sector: Security
Investment Thesis: Entrust started out providing Certificate Authority software for use in public key encryption and now has a broader line of identify management products.  I know them from my days covering the security sector on Wall Street.  They seem to disappoint at least once a year and given that the stock has now fully recovered from their last dissapointment they should be due again.  It doesn't help that most of the major software players, including IBM Oracle and CA, have made their own identity management acquisitions in the past 18 months either.
Performance: Since 9/30/05: 0% Sep. vs. Aug.: 0%
Comments: Should be a reasonably quiet month given that they usually don't report until the middle of the quarter.

October 3, 2005 in Internet, Software, Stocks | Permalink

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The thoughts and opinions on this blog are mine and mine alone and not affiliated in any way with Inductive Capital LP, San Andreas Capital LLC, or any other company I am involved with. Nothing written in this blog should be considered investment, tax, legal,financial or any other kind of advice. These writings, misinformed as they may be, are just my personal opinions.