I found this Planet Out stock by screening the AAII stock investor database. This used to be an exciting online dating stock. They grew their revenue very quickly but they couldn’t get the earnings or cashflow to grow as well. This one has crashed and is trading below book value.
Here’s what I find attractive about it:
- 3 years of investor exhaustion. In 2004, the market price was over $130 after adjusting for the reverse split. Everybody who has been involved in the stock for the last few years has lost money. This is usually when you get the most indiscriminate selling. I like buying from these types of sellers.
- The high margin core business has stopped bleeding cash. It is now cash flow neutral…but I don’t know for how long or how stable this condition is. No promises from management, either.
- Questionable (or no) analyst coverage. Yahoo has 1 analyst with a $30 target. Can’t find any reports on them with my limited resources. When I called the company they snubbed me and said “we’re not talking to the street.” That’s good. Wall Street hates companies that won’t talk to them.
- They’re about to be delisted from Nasdaq because the market cap of the free floating shares doesn’t meet requirements. If you’re an investor who purchased this anytime over the last few years and you’re down 50-95% on your investment and you get a notice saying nasdaq is going to delist, what will your reaction be? Answer: you’re going to dump it for whatever you can get for it. I like buying from people like that. Nobody wants to buy a stock that’s about to be delisted. I’ll buy it if it checks out.
- Investment bank Allen & Co. took a warrant with a $6.20 exercise price as partial compensation for exploring strategic options (i.e. selling the biz). That’s a good double above the current share price. Allen & Co is a hot boutique i-bank specializing in media and entertainment industry stocks. That is bullish they think they can get that much for it.
- Bill Gates, the 2nd richest man in the world, has access to lots of fancy online data & statistics. His hedge fund owns it. You’d like to think that he knows what it is worth.
- Management was replaced at the end of 2007. I get the feeling that new management isn’t in it for the long haul. I dare say a “transition team?” The CFO and Tech guy have one year contracts. The CEO was previously a board member.
- Valuation: Trades at about 60% of book value. Much of the book value is cash. There is no debt.
- Replacement value: If I wanted to build from scratch an online community with $20 million in revenue it would likely cost at least 3x more than Planetout costs. This checks out; Planetout has spent about 3x their market cap over the last few years in capex developing their web business.
- Earnings potential. Planetout earned $1.50 per share in 2005, the only year it turned in positive earnings. Revenue was lower in 2005 than it was in 2007?!?
- They are the 9th ranked dating/personals service on the internet according to some industry watchers. This is not the 9th ranked gay site, it’s the 9th ranked dating site for all types of people, gay, straight, tall, fat, etc I can see how internet dating might really be here to stay and I also see how it is a good, sticky business with lots of repeat customers. Large, reputable and specialized dating sites might indeed have a compelling value proposition for end users.
REPLACEMENT VALUE
I talked to some friends who are in the low budget, mom & pop web business and came up with a business plan to build a website that generates $20 million in ad revenues and subscriptions.
Here’s my plan: I’d go to moniker.com and buy a few “easy to remember” and obvious domain names. That would cost me about $500k to $1 million for some really good ones. This sounds silly but having “gay.com” might be one of planetout’s best assets! Obvious domains get traffic.
Next, I’d rent office space and hire a bunch of writers, photographers, web developers, programmers, ad sales, story editors, etc. Say 50 people or so… the average salary would be $60k including benefits. I figure I’d need to commit to 3 years. That would cost me $9 million.
I’d have to rent a good slug of office space in a fancy neighborhood. That would cost me $1.5 million for 3 years.
I need to buy everybody a computer. I’d need a lot of big computers to make up a “server” and I’d have to buy coffee machines, faxes, desks, chairs, toilet paper and various other office things. Hello Ikea? Hello Dell? That would cost me $500k because I’m cheap.
I’d need an ad campaign to tell people about my new site. I’d have to put ads on late night cable television, radio stations, other websites, etc. I’m guessing that would cost anywhere from $1 million to $10 million. Let’s use $5 million.
After spending all that (it comes out to around $17 million) and patiently waiting 3 years while the website gets built and the marketing machine gets the message out… I still might not get my $20 million in annual revenue. I could, however, just buy planetout.com for $10 million (which is what you are doing if you buy the stock at $2.60) If I could recover 50% of the excess working capital that is on their balance sheet right now, then that would bring my purchase price down to $5 million.
If Planetout can survive long enough, somebody, somewhere, somehow might want to own a bunch of websites targeting a wealthy demographic. This is arguably the leader and it’s cheaper to buy them than to develop your own. It seems like if the business is managed right it could be a sticky audience, like a regional newspaper. Warren Buffett and Charlie Munger made a ton of money buying regional newspapers.
Here’s what I do NOT like, and here’s why I’m passing on this idea (for now):
(1) Management is not eating their own cooking. No insider buys whatsoever. The CEO is getting paid about $1 million over the next year, that’s 1/10 the market cap. That is too greedy. Overall, the incentive packages looks extremely lame as far as alignment with owners. Pay her $1 million if she turns a profit. The CFO’s bonus is just for “staying on” an entire year. How about some humility folks? Your company destroyed $400 million in shareholder wealth over the last few years.
(2) It appears they have a bizarre, non-shareholder friendly corporate culture as if they were still some big-time dotcom star. Hello? Your market cap is $10 million. You’ve proven to the world you suck beans at allocating capital. Why not call a potential shareholder back when they call you? When I finally got through to the CFO he mentioned their burn rate. I do not like hearing about how they’re burning up capital. When a biotech talks about burn rate they better end the sentence with the market potential for whatever they’re burning capital to develop!
(3) The special situation hedge fund that is selling looks like they just want out yet no one will buy their shares and they’re not stupid enough to keep selling this far below book value. I believe this will cause what I have heard is called “overhang?” They’ve sold maybe 100k shares and still have another 400k or so left. They have a fairly diverse portfolio of small cap nasdaq stocks so I don’t think they’re suffering from any kind of margin or liquidity squeeze based on their holdings… but who really knows?
(4) No room for mid-sized companies. How can a mid-sized company compete in this space? You have easy entry into the business on a small scale from regional mom & pop or specialty boutique dating services. There is even off-the-shelf software for running a dating site that I can purchase for $1000. On the large scale, you have dominant mega cap companies (like yahoo and aol) that are doing huge dating sites with international reach. I can see how a consumer would want small or large, but why would they be attracted to a mid-sized company? Ok, this is a lame reason for not liking it.
In conclusion, I will pass for now but keep this on the back burner. I like the balance sheet. I know that buying companies trading at this much of a discount to book value generally works out ok. The CFO verified that the cash from the recent divesture, even though it was earmarked as future revenue, will show up as cash and will have no restrictions. If insiders pick up shares or I find out a more compelling reason to step up to the plate then I may change my mind. In the process of looking at Planetout, I came across Spark Networks which I may examine a little closer. It was written up on VIC not too long ago and is still priced cheap. If anybody has any comments or ideas about how to look at this stock or this industry then I would appreciate it!
