Saturday Group: Why Cabletron Is Ready to Rebound
individualinvestor.com
Editor-in-Chief: Jonathan Steinberg (6/17/00)
I have been enamored with the shares of Cabletron Systems (NYSE: CS - Quotes, News, Boards) for the past year.
As an early pioneer in the data networking industry, Cabletron burst onto the scene in the 1980s under the leadership of founders Craig Benson and Robert Levine. The company stumbled in the mid-1990s, losing ground to the likes of Cisco Systems (NASDAQ; CSCO) as management failed to position the company to capitalize on the emerging landscape of the networking industry. The company has been restructuring ever since.
Now under new leadership, chairman, president and chief executive officer Piyush Patel is remaking the networking company.
I first recommended the stock over a year ago when it was trading in the single digits. I was attracted to Cabletron because of its leadership position in the rapidly growing layer 3 switching market, a fast growing next-generation switching market.
Cabletron had lots of baggage, including significant exposure to slower growth product lines and a very confusing supply agreement with Compaq Computer (NYSE: CPQ - Quotes, News, Boards). As a consequence, its valuation fell to book value and investors, despite recognition of Cabletron's leadership in an emerging market, ignored the stock.
Over the past year, Patel has completely refocused Cabletron. Through heavy investment in new technologies and the jettisoning of non-core businesses, Cabletron has emerged as a completely different company. Investors began to take notice, sending the Rochester, N.H.-based company's shares up by over 100% at one point.
In late February, Cabletron management articulated to Wall Street plans to transform its business by creating four independent operating companies. Each operating company will have its own focus, targeting specific market opportunities. Cabletron indicated that it planned to initially spin off 20% of each division, with the remaining 80% to be distributed to shareholders in a tax free manner six to nine months later.
Shortly after this plan was made public, Cabletron announced that Silver Lake Partners, an investment group comprised of the partners of Integral Capital Partners and Kleiner, Perkins, Caufield and Byers, agreed to invest $200 million in Cabletron and its four subsidiaries. This investment was a powerful endorsement of Cabletron's new strategy and of the market opportunity that its four divisions were targeting.
Silver Lake, as part of its $200 million investment, will invest capital to acquire 3% of the diluted equity in each of the four subsidiaries. Cabletron did not need Silver Lake's capital, as the company is flush with cash and marketable securities to the tune of well over $1 billion.
Silver Lake brings expertise in managing the growth of rapidly growing technology companies. Additionally, Silver Lake brings a tremendous network of contacts that will surely help Cabletron's divisions flourish in the rapidly changing networking industry. Cabletron shares soared through the $50 level earlier this year due in part to enthusiasm for the spin-offs and the clear focus of Cabletron management on increasing shareholder value.
However, on March 30 Cabletron's shares got pummeled, falling by more than 40% and wiping out more than $3 billion in market capitalization as investors feared business disruptions from the planned spin-offs. Cabletron shares have continued to sink as the company continues to sell and phase out slower growing business units.
These divestitures, comprising units that account for over 25% of Cabletron's revenue, are actually continued evidence that Cabletron is moving in the right direction. Investor concerns are simply over done and the precipitous decline in Cabletron's shares has created a great buying opportunity.
The value of Cabletron lies in its balance sheet and four divisions; the spin-offs remain on track. Cabletron management has made all the right moves. In a very short period of time a new strategic direction has emerged, one that will surely result in an increased valuation for shareholders.
With Silver Lake on board and Cabletron poised to spin off two of its four subsidiaries by year's end, news flow will be strong and its share price, around $22.44, is poised to move up.
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