Rita, thanks for the reply!!! Here is what Deutche bank had to say!!
07:36am EDT 29-Jun-99 Deutsche Banc Alex. Brown (Marks/Rolfes/Conley 212 469-5
National Discount Brokers - Initiating Coverage With A Strong BUY (1 of 2)
NATIONAL DISCOUNT BROKERS - inititating coverage with a strong buy RATING and a
$100 12-month price target
Analyst: JAMES MARKS, 212/469-5948
Associate: KRISTEN ROLFES, 212/469-5267 / JOHN CONLEY, 212/469-4720
Date: June 29, 1999
Ticker: NDB Current Rating: STRONG BUY Target Price: $100.00
Price: $35 1/2 Previous Rating: 52 Week Range: $93 - $8 1/8
Exchange: NYSE 12 Month Volume(000's): 523
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Fiscal Year : MAY
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EPS 1999E 2000E 2001E
QTR. Prior Current Prior Current Prior Current
1Q $(0.09) $0.22 $0.34
2Q 0.42 0.17 0.24
3Q 0.58 0.16 0.32
4Q 0.48 0.24 0.60
Total FY EPS: 1.34 0.79 1.50
P/E: 26.5 44.9 23.67
Rel P/E: .99 1.84 NA
Consensus: NA NA NA
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Shares Outstanding (MM): 17.2 Market Cap ($MM): $610.6
Return On Equity: NM Net Debt To Total Cap: 0%
Dividend / Dividend Yield: NIL 5 Year EPS Growth: NM
Current Book Value/Share: $15.13
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KEY POINTS:
* The Internet is a catalyst that is likely to produce great changes in the way
American consumers access and select financial services products. The Internet
allows companies, such as NDB, to a) acquire large numbers of customers on an
extended geographic basis at a low cost, and b) use those relationships to
deliver a wide array of financial services at increasingly attractive returns
driven by the operating leverage inherent in the Internet.
* Online brokers have been the most successful in building these online
financial service relationships, leaving them in the best position to exploit
the Internet opportunity. In addition, the economics surrounding account growth
are extremely attractive, presenting one of the best long-term e-commerce
opportunities.
NDB is a pioneer of the online brokerage industry and has been singled out by a
number of surveys as a top-rated Internet broker on the basis of reliability,
ease of use, and research.
Management has extensive experience in the securities industry.
* NDB trades at a significant discount to the other players in the online
brokerage industry, making it our favorite play currently to take advantage of
the online financial services and brokerage opportunity.
* Initiating coverage with a STRONG BUY recommendation and a $100 12-month price
target.
INVESTMENT SUMMARY
We are initiating coverage of National Discount Brokers Group (NYSE-NDB-$35
1/2), with a STRONG BUY rating and a $100 12-month price target. We expect the
Internet to introduce tremendous change in the financial services industry. The
online brokers have been the most successful in exploiting the opportunity these
changes are creating, generating large numbers of online financial services
relationships under an attractive economic structure. We believe the leading
players in this space have a unique opportunity to build on these online
financial relationships to create nationwide retail financial services
franchises at a fraction of the cost and time that would have been required
prior to the Internet. This is NDB's opportunity, one that it is well positioned
to capitalize on. Given the strong cash flows generated from its market-making
business that can be reinvested into marketing and given its wide recognition by
rating services as one of the top two or three online brokerage sites, it has
an important hook to market behind. While other online brokers share this
opportunity, National Discount Broker's unique investment attraction is the
substantial valuation discount it trades at relative to other online brokers and
the fact that it is just starting to invest heavily in marketing to spur
accelerated growth.
MAJOR INVESTMENT POINTS
The following points summarize our investment thesis:
Online Brokers Are Seizing Internet Opportunity
We see the Internet as a significant catalyst for change in the way Americans
access financial products and services. Existing banks and brokers face channel
conflicts as well as technological obstacles that hinder their ability to take
advantage of this new distribution medium. The operating leverage inherent in
the Internet creates a great deal of cost savings that can be passed along to
the customer. This will create tremendous opportunities for firms, such as the
online brokers, that can quickly respond to the change and deliver real benefits
to consumers.
NDB Well-Positioned to Capitalize on the Online Opportunity
With 128,000 active accounts as of the end of February, NDB is one of the ten
largest online brokers, big enough to compete with the leaders and small enough
to offer much higher prospective growth. The company has established a
reputation as one of the highest-quality online brokers. The web site has been
rated #2 by both Barron's and Money magazine based on such criteria as trade
execution, reliability, ease of use, system responsiveness, and customer
service. The company intends to focus strongly on maintaining high customer
service levels, a differentiating factor that we believe will become
increasingly important. Although the company has been growing accounts at what
would be an otherwise impressive 10% sequential basis, this trails the growth
achieved by AmeriTrade and E*TRADE. NDB's growth, though, has been achieved with
minimal marketing expenditures. With over $100 million raised in its secondary
offering and the sale of its NYSE specialist operations, this is about to
change. The company now has a substantial marketing war chest and it has the
considerable cash flow generated from its market-making operations. This is
going to be invested in marketing. Given its high ratings and low historical
acquisition cost per account, we believe the increase in marketing will produce
commensurate increases in the growth rate of accounts, an easy-to-predict
outcome that should prove a spur to valuation.
The Compelling Economics of Account Growth
The company has announced that it intends to considerably ramp up its marketing
spending in the coming quarters, and we expect this to drive strong account
growth as customers continue to switch from full-service brokerage accounts to
online discount brokerage accounts.
NDB spent $4.3 million in the first 9 months of FY1999 to add 28,500 accounts.
Based on the company's imminent marketing push, we estimate that NDB will spend
close to $30 million on advertising in 2000. At an estimated cost of $237 per
net new account, this should roughly double the account base. Unlike selling
books or airline tickets or computers online, NDB is capturing customers' assets
and creating ongoing relationships-an annuity. Currently, this annuity is worth
just over $100 per year to NDB before marketing expenses and taxes. At the
margin, where it should be examined, we believe each additional account will
generate roughly $250 before marketing costs and taxes (this figure includes
revenues generated by NDB customers executing trades through Sherwood). Viewing
marketing as an investment of $127 in a long-lived asset-a customer-we calculate
an IRR currently of 46% on that investment at current profitability levels and
of 194% at the margin.
With IRR's this high and with the immediate positive impact on cash flow each
new account produces, online brokers can create significant value by funneling
every available dollar into marketing. With each new account, NDB creates a
potent source of cash to fund future marketing efforts. This generates new
accounts, boosting cash flow to fund more marketing, which generates even more
new accounts. This is a virtuous cycle that, until it ends, is generating
tremendous value for shareholders.
High IRRs on accounts justify putting every free dollar into marketing.
We expect NDB to spend close to $30 million in marketing in FY2000. This should
produce clear account growth, but also bottom-line losses as account acquisition
costs are expensed immediately. We are much less concerned, however, with the
current bottom line than we are with the economic virtues of account growth
accompanied by solid returns per account. We see marketing as a lever that can
be moved forward or back. Move it forward to increase marketing and short-term
earnings suffer, while long-term value increases (as long as high IRRs are
maintained). Ease up on the lever to let marketing costs subside and GAAP
earnings at a new higher level shine through. The long-term opportunity is to
measure account growth against the cost of acquiring accounts and the expected
profitability to calculate a return on marketing investment. As long as this is
anywhere close to the 194% IRR that NDB is generating at the margin, we believe
the company should be putting every dollar it can get its hands on into
marketing. This, however, diminishes or negates reported earnings in the short
term.
Consequently, we do not believe that price/reported earnings multiples give a
good indication of valuation relative to other companies without similar
reinvestment opportunities. We prefer to look at price/pre-marketing EPS or a
price/earnings multiple using account acquisition costs amortized over three
years. Using an earnings number that has advertising-amortized over three years
(which we believe is the best way to value the company), NDB is trading at 26.5
times 1999 earnings and at 44.9 times 2000 earnings. We believe this is a very
attractive level given the doubling in account size that we expect over the next
year and the continued strong growth which we believe is available beyond that.
Valuation of Online Brokerage Should Take into Account Sherwood.
NDB's market-making business, Sherwood Securities is on of the four largest
independent market makers. This currently accounts for over 70% of National
Discount Broker's revenues and over 100% of net income. While the growth going
forward will be in NDB.com, Sherwood has a clear value in and of itself. The
logical proxy to use for this is Knight/Trimark. Using Knight/Trimark's earnings
multiple applied to Sherwood, Sherwood alone would be worth nearly three times
NDB's current market value. This, however, rests on a valuation for
Knight/Trimark that we are not comfortable with and ignores Knight's growth
focus compared to Sherwood's more restrained ambitions. Using just 44% of
Knight's multiple, however, applied to Sherwood's earnings would account for the
entire market value of NDB, giving investors the online brokerage for free. We
believe, though, that the conservative approach would be to value Sherwood at
just 12 times earnings, more reflective of a market-sensitive business that does
not have the expansion opportunities inherent in the online brokerage account
base. At this level, Sherwood would be worth $441 million, or $26 per share.
Investors would be paying just $169 million for the online brokerage, or $606
per account.
NDB trades at an attractive discount to the other online brokers.
NDB offers investors an opportunity to make a play in the online brokerage space
without paying the existing premiums in the stock of most online brokers,
premiums which, we believe, are based on unsustainable growth assumptions. While
we remain optimistic with respect to the market for online brokerage products
and services for the industry in general, we do see risks in the underlying
market exposure. We believe, at current valuations, the market has taken this
optimism to a level that is unsustainable for all of the online brokers except
NDB. While Schwab, AmeriTrade, E*TRADE and DLJdirect are trading at current
market premiums of between $6,400 and $12,800 per account, NDB trades at at
substantial discount, at only $4,700 per account. Furthermore, its market-making
business has a value that is independent of the account base. Adjusting for
this value, we believe investors are paying no more than $1,000 per account for
NDB.com. NDB trades at similar substantial discount to other online brokers
using all of the metrics we employ.
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