Great Titchfield Street, London -- It's time for Thus (LSE: THUS), the operator of Demon Internet, to leave the nest. Scottish Power (LSE: SPW) is kicking out its unruly child and leaving it to fend for itself in the big, nasty world of telecommunications.
Up until now, Thus has been financed by a large loan from Scottish Power. So far it has drawn down a whopping £260m. However, this morning it was announced that this is to be repaid by an issue of new shares at 48p. This will be fully underwritten by Scottish Power, meaning that if existing Thus investors don't want to take up the offer, Scottish Power will take up any slack. Like Colt Telecom (LSE: CTM), Thus is finding the value of having a rich parent. However, Scottish Power has said it is likely to get rid of its Thus shares by handing them out to its own shareholders.
The new share issue is an open offer. This is similar to a right issue. The main difference from the point of view of the private investor is that in a right issue, you can sell your 'rights' to acquire the extra shares on offer and receive some cash in return. With an open offer, if you don't want to (or can't) buy additional shares, you receive nothing in return.
Boosted by the prospect of securing new cash, shares in Thus rose sharply this morning. But a closer look at its business suggests caution is required. Thus will have a small amount of cash left over once it repays the loan to Scottish Power as the new share issue will raise £275m before expenses. It has also secured a new £90m bank facility with a syndicate of three banks that includes the Royal Bank of Scotland (LSE: RBOS). Thus reckons this facility will be enough to see it through to when it expects to be cash flow positive, which is 2004/5 according to its last set of results.
That looks optimistic for a business that has burnt through around £160m in last twelve months. No doubt the current business plan calls for sharply reduced capital expenditure and cost cutting. But from this distance, it looks like an extremely close call. Like Colt and Energis (LSE: EGS), Thus is concentrating on supplying telecom services to the corporate and small business market. It's a tough sector and profit margins are small. Gross margins were just 20% in the last interim results. Once other claims on profits are made, there isn't too much left for shareholders.
After the new shares have been issued, there will be almost 1.3b in circulation. That implies the business will be valued at around £700m, given the current share price of 53p. For a low margin business (yet to move into profit, anyway) with sales of less than £300m expected for this financial year, that valuation looks too expensive.
More: Thus discussion board
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