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05/01/2008

Infospace and the Great Shareholder Robbery of 2007

Wow.  Infospace reported earnings today and the stock was off 14%.  But that's not what's making me say "wow".  What's making me say "wow" is that I took this opportunity to take a look at Infospace's 2007 "earnings" report and I have to say I am impressed because it has to go down as one of the great shareholder robberies of all time.  Infospace, as you may recall, was a once high flying internet content company that assembled a motley menagerie of web and mobile based content businesses via 30+ acquisitions over the last 10 years.  They bought everything from Authorize.Net, to Go2Net, to Switchboard.  While there was supposedly a grand strategy driving to all these purchases, arguably what they were left with after 10 years and $1.7BN in paid in capital was just over $1BN in retained losses and a motley collection of business that looked like they were going no where fast.

Anyway, the company's mobile business was held out as the potential savior for a long time but as that too began to implode in 2006 and early 2007 the management team basically threw in the towel and embarked on a process of selling off the company's assets piece meal to the highest bidder.  No doubt a somber occasion given that the sales represented the culmination of a failed strategy that had cost shareholder's a cool $1BN, but at least you have to give the management team and the board credit for doing the honorable thing by admitting they failed and doing their best to salvage something for the shareholders.  Or do you...

On Closer Inspection
Before you give the management team and board any credit for doing the right thing, you might want to know a little something about the a deal they struck for themselves that nicely coincided with their fire sale.  The plan was to sell off the assets and dividend out the cash proceeds to the company's long suffering shareholders, which sounds fair enough.  However, the management team was able to convince the board that they should get paid a "bonus" equivalent to the dollar value of the dividends that would theoretically accrue to any vested or unvested stock options they might have.   So if the company did a $5 dividend of sale proceeds and the stock dropped $5 (which it inevitably would), the management team would get a $5/share bonus for each vested and unvested stock option they owned.

Now on one level that sounds fair enough.  I mean after all, why should the management team and the employees have their options go further underwater simply because they are doing the right thing and trying to get shareholders back some cash.  However the net effect of such a scheme is to basically give the management team a gross cut of whatever they sell an asset for without regard to whether or not the sale was even profitable.   The cynic/economist/anyone with common sense would say that under such a incentive structure management would race out and sell everything and the kitchen sink for whatever price they could get because it was money in their pocket no matter what.

Care to guess what happened?

Everything Must Go!
That's right, Infospace's management team ran out and sold everything they could for whatever price they could get.  The directory business, painstakingly built up over a period of 10 years: sold for $225M to a private equity firm.  The mobile business, which they been acquiring new businesses for less than a year earlier: sold for $135M to a private competitor (who reportedly now mightily regrets the purchase).

And what did they do with all that cash (as well some cash from settling a lawsuit with a former founder who defrauded the company's investors)? Why surprise, surprise, they dividended out all that cash out to their shareholders in two special dividends totaling $15.30/share or over $500M in cold hard cash.

And what, pray tell, what did the management team get for the arduous task of lifting up the phone and calling their bankers?  A cool $90M in special cash bonuses and stock compensation in 2007.  If you are on that management team, the thought that likely came to mind as you cashed your 2007 bonus check was "God Bless America!"

Defending the Indefensible
But wait, defenders of the management team's "golden dividend" might point out that the asset sales generated a combined $149M "gain" and surely the team should at least be entitled to share some of that gain.  But that logic fails to account for that fact that prior to 2007, Infospace had already taken $240M in impairment charges since 2000 which means that the actual "gain" on sale of those assets was likely far lower and might even have been a net loss of over $90M on an original cost basis. (I'd guarantee its a loss, but it's impossible to figure out what impaired assets were sold given how many deals they did.)

One final point of defense might be the stock price.  Defenders might point out that at the beginning of 2007, before management embarked on the asset sale strategy, Infospace's stock price was $20.51, and even though it closed at $10.38 today, when you add back the $15.30 in dividends, you get an adjusted price of $25.68 or about $5.17 higher, so one could argue that despite all the management payouts they still created value.  There are only two problems with that logic:  1.  With 33 million shares outstanding, $5.17/share translates into only $170M in increased "shareholder value" vs. $90M in management comp which equates to a 35% cut for the management team.  M&A bankers would sell their mothers to get a 3% cut of a sale so I shudder think what they'd do for a 35% cut.  2.  If you go back just 3 years, the stock price was at a whopping $47.55 meaning that shareholders have suffered a 46% loss in the last 3 years, but the management team and the board thinks that's an occasion for them to give themselves a windfall payday the size of which would make even an investment banker blush.

Don't Look Now But You've Been Robbed
Let me be clear: I've never owned or shorted (unfortunately) Infospace stock, so I don't really have a dog in this fight.  I am just flabbergasted that none of their shareholders stood up to such a blatant scheme and called it for what it is: highway robbery.  I don't have a problem at all with paying management teams well for creating value,  I just have a huge problem with handing out huge bonuses (i.e. more than 10X the already egregious fees charged by bankers) to people who sell assets for little if any gain when their shareholders are already sitting on $1BN an losses and a 46% stock depreciation since 2005.  Call me crazy, but I have a problem with that even if, inexplicably, Infospace's shareholders don't.  You may also ask why didn't the board, who supposedly represents the shareholders, have problem with that: simple, they cut the same deal for themselves.

As for shareholders, they are now left with a business whose only significant asset is a website called Dog Pile.  If you're like me, the image that pops into your mind when you hear the term "Dog Pile" isn't exactly a pile of money, which at least strikes me as poetic justice if nothing else.

I currently have no investment position, long or short, in Infospace.  This is not investment advice, it is an incredulous rant.  Please see my disclaimer at the bottom of this page for further details.

May 1, 2008 in Internet, Wall Street | 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.