Riverstone Analysis:
Assuming:
a) 11.5 (15% of total RSTN) million shares issued in the IPO
b) 11.5 million shares is 15% of 76 million shares
c) 76 million - 11.5 million = 64.5 million shares
d) CS has 185 million shares outstanding
e) 64.5 million/185 million = .348
f) for each 100 shares of 100 CS, investor receives 34.8 shares of RSTN
g) 34.8% = $4.50 per RSTN value per CS share
"Metro-area network (MAN) routers & switches
This company makes high performance optical/electrical switch routers and web switches used to boost the performance of metropolitan area networks. The firm is positioned on the leading edge of the rotation to MAN networks by service providers. It’s products support a shift from the expensive voice-dominated SONUS technologies and provide servicers with a “single box” for bandwidth management, dynamic provisioning, content delivery, and private virtual networks.
Most recently (January ’01) the firm introduced a new generation optical router which supports mixed protocols and is regarded as extremely competitive with any other available alternative. The impact of this breakthrough has not yet been reflected in the firm’s performance.
Background:
Riverstone is a Cabletron carve-out. About 85% of the firm will be retained by Cabletron, which plans a spin-off following IRS approval. So there is a considerable dilution overhang about 12 months out. Unlike many carve-outs, all of the offering proceeds will remain in the company. So new investor capital will be more productively applied to the company’s development. This is usually a positive signal for new investors.
The firm emerged from the merger of Cabletron acquisitions Zeitnet (’96) and Yago Systems (’98). Performance took off in 4QFY’00 (12/99) and has accelerated since then. Customers are local exchange carriers, Internet service providers, hosting services, and MAN providers.
Reception:
Reception has been positive. International sales, begun only in FY’00 (2/00) reached 23% of the business that year and have increased to 26% in 9mFY’01 (12/00). Top customers in 9mFY’01 include British Telecom, Earthlink, Metricom, Vitts Network, CAIS Internet, Intellispace, Telia, and Terayon. Most recently (11/00), Tellabs became a global distributor. Any benefit has not yet been reflected in performance.
Growth Story:
The “story” of this company has been its explosive growth. Up 603% in FY’00 (2/00), it has added another 512% in 9mFY’01 (12/00) and is on track for a potential $84 million year. Quarterly growth has been equally impressive. It took off in 4QFY’00 and has accelerated throughout 9mFY’01, growing at a 27.9% compounded quarterly rate. The recent optical router product (1/01) may further accelerate the growth rates.
However, like so many firm’s of this nature it’s cash burn is considerable. At the current cash burn rate, the firm may have 14-18 months of cash following this IPO. There are also some concerns with the firm’s practice of guaranteeing customer lease payments. This sets up a residual exposure that may become material during the anticipated economic turndown.
· Between FY’99-FY’00 (2/00) revenues increased by 603% to $23.1 million, with a 48.1% gross margin and a $37.4 (-162%) million operating loss, adjusted for equity charges.
· Between 9mFY’00-9mFY’01 (12/00) revenues increased by 511.9% to $63.1 million, with a 55.5% gross margin and a $30 million (-47.7%) cash operating loss, adjusted for equity charges. Over the same period, cash flows reached a -$22.8 million (-36%) level. The current expense structure suggests continuing losses and are dominated by CGS (44%), R&D (48%), and marketing (40%).
Relevant Valuations:
Valuations in this sector have been sharply eroded since the start of the 4Q’00. Formerly a very high-flying sector, prices are all considerably off their 52-week highs with many near new lows. Most recently, Cisco’s disappointing outlook has further weakened the entire sector. Overall, the networking sector was recently down 7.3% for ’01 YTD.
The firm’s closest competitor is Extreme Networks, which recently reported 2QFY’01 revenues of $144.7 million and $12.6 million (8.7%) in earnings.
Some recent IPOs may add further perspective:
· Extreme Networks was a $119 million deal offered on 4/9/99. Offered at a split adjusted $8.50, it closed at $27.69 for a 225.7% first day. It recently traded at $30.94, adding 11.7% in the aftermarket but in the lower quarter of its trading range. The firm has an estimated pro-forma P/E in the 70 range.
· Juniper Networks was a $163.2 million deal offered on 6/25/99. Offered at a split adjusted $5.67, it closed at $16.31 for a 187.9% first day. It recently traded at $83.88, adding 414.3% in the aftermarket but in the lower quarter of its range.
· Foundry Networks was a $125 million deal offered on 9/28/99. Offered at a split adjusted $12.50, it closed at $78.13 for a 525% first day. It recently traded at $15.25, off 80.5% in the aftermarket and at the bottom of its trading range. The firm has a reported P/E of 25.
Reflecting the weakness in the sector, pre-offering demand is reported to be moderate (Street Scoop: 3 stars).
Conclusion: This deal is being offered 12 months too late. Were this 2/00 instead of 2/01, a very favorable reception, a 200+% first day, and a tripling of aftermarket values would have been expected. However, the time for pure-play momentum offering has passed. And this is a pure momentum offering. The explosive growth and substantial revenues suggest a very attractive promise. But the firm is burning cash at an alarming rate. Unless corrected, &/or a re-visit to the capital markets, the firm will exhaust the IPO cash within 18 months. That makes it a highly risky offering under today’s conditions. The overall skepticism about the sector, especially following the Cisco disappointment, also signals a restrained reception.
However, we do anticipate some early play following the IPO. Chat-room buzz suggests considerable interest by day-traders who have not had a “high-tech” opportunity so far this year. So for a similar firm in a comparable situation we might anticipate a moderate initial reception (e.g., 10%-30%) followed by volatility and eventual erosion.
Some investors may be examining Extreme Networks as a comparably prices, but higher performing alternative. Given the state of the general market, a re-scheduling may not be surprising." |
