Great Titchfield Street, London -- Two years ago I talked to Professor Henry Beker on the phone. Who he? Beker founded Zergo, a loss-making company listed on AIM. This merged with Baltimore Technologies(LSE: BLM) last year. At the time of our conversation Zergo was worth little more than £100m. The group was keen on developing its range of Internet security software programmes.
Two weeks ago Beker stepped down as chairman of Baltimore. In the intervening 100 weeks his company's market value had risen almost thirty-fold to just short of £3 billion. That increase is staggering. But why would Beker leave at this moment? Does he see no more potential after such a meteoric rise?
Beker is not the only director to sell out. On May 15th both he and Fran Rooney, founder of Baltimore, sold 1m shares each, raising £5.8m respectively. And previously when the group joined Nasdaq last September the directors also reduced their holdings substantially.
Baltimore has already done the easy bit, talking up its share price and market value to stratospheric heights. The hard part follows now, growing revenue and earnings by a similar amount. Let's put the magnitude of this task in perspective. Over the past two years, during which the company's market value has increased roughly thirty-fold, revenues have only just doubled. Meanwhile pre-tax losses have quintupled as the group spends freely in an effort to compete.
Baltimore claims it will be profitable by the end of 2002. Investors certainly believe it will be. The company's shares currently trade on a price to prospective earnings ratio for 2002 of something like 10,000! This would suggest that the group hopes to grow revenue and earnings by over 100% each year for the next five years. Can Baltimore possibly meet these incredibly stringent growth demands?
Greed and Fear
Any novice investor who has studied stock market lore will know that share prices are driven by the twin emotions of greed and fear. Investors want as high a return on their money as possible. Therefore they seek out companies that are growing as quickly as possible. People are scared of missing out on "the next big thing". This pushes the value of an investment even higher as punters rush to grab hold of the limited stock.
Before long people are more interested in watching the share price than dissecting the company's fortunes and fundamental prospects. This trend certainly seems to be happening on the Baltimore discussion board. Conversely as soon as the sentiment changes and a few people sell their holdings, as the directors have done in recent months, then the fall in value is exaggerated as well, sparking fear amongst shareholders.
Greed and fear grips Baltimore fans. The great thing though is that these two elements also sum up Baltimore's business. People who use the Internet want to get something for nothing, or at least much cheaper than through normal channels of distribution. This greediness is the principle behind e-commerce.
However, consumers are also scared of Internet fraud, and people getting hold of their payment details. (God knows why, though. After all, we hand over credit card details on the phone quite freely, or commit them to paper with gay abandon). This is where Internet security software comes in, playing on these fears.
Baltimore and Zergo were the first companies to offer this in the UK and Ireland. This magic combination of greed and fear inspired investors and the shares of the combined company shot up as many suspected it might dominate this field.
Global marketplace
But stand back a minute. The US Fool has just published a report on network security. This goes through the major global competitors in this field. Baltimore failed to get more than a cursory mention.
We are after all dealing with the World Wide Web here. Not just the UK and Ireland version. As such the major players in the market are American groups of the stature of Verisign (Nasdaq: VRSN), Entrust (Nasdaq; ENTU) and RSA Security(LSE: RSAS). Even major software players like Microsoft (Nasdaq: MSFT) could step into this market.
However, is there a decent enough market? These companies rely heavily on attitudes to e-commerce. At the moment many operators are re-assessing their online activity and progressing at a more sedate rate than previously envisaged. The rush is not as dramatic any longer. Growth will not be quite as quick.
If Baltimore is to become the provider of choice it really has to crack the massive US market, where it is a small competitor at present. If it doesn't then it will be marginalized. Baltimore has implicitly recognised these fears. Its recent £700m all-share deal to acquire US rival Content Technologies underlines this need to expand in the American markets.
This paper deal is not only defensive it also has the nasty side effect of diluting current shareholders' stakes. Worse still, Baltimore has done several of these deals, buying Cybertrust and NSJ this year, in an effort to boost revenues and its flagging position in this competitive market. It seems that Baltimore are tyring to get a finger in every pie, without dominating any particular aspect of Internet security. The group hasn't produced the exclusive Chubb or Yale lock yet.
For more detailed bearish opinion check out these posts from Gilesyb and Calrolfe. I think you'll come to the conclusion that Baltimore is a combination of hype and hope. Vote bear!
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