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By Bruce Jackson (TMFgoogly@aol.com)
Somewhere over the Atlantic Ocean at 35,000 feet -- Tomorrow is annual results day for our one UK based Information Technology (IT) company, Misys (LSE: MSY). Before having a sneak preview at what we'd like to see and hear tomorrow, it is worth remembering what the company actually does. Peter Lynch, best selling author of such classics as Beating The Street, says you should be able to explain to a stranger what a company you own shares in actually does. Well, on Monday I was thrown into real life situation where, in a mock interview, I was asked to explain a little more about Misys. It's never enough to simply describe a company as "being in the IT sector." There's much more to Misys than that.
Anyway, my description of Misys went something like this. As you're reading this, bear in mind I'm 35,000 feet in the air, with no access to the Internet, and the Misys annual report is safely back in London. Also, in the original buy report, I confessed to not having a great understanding of the company's activities. Here goes.
"Misys is a seller of software products, primarily to the banking and healthcare industries. They have grown predominately by acquisition, so therefore don't actually develop many of their own in-house products. They are essentially conglomerate, but unlike the classic conglomerates such as the old Hanson (LSE: HNS) or BTR, they operate in a growth industry. That industry, the selling of software, also happens to be a quite high margin industry, and one in which companies can earn a high return on equity (ROE). This is in contrast to the old engineering conglomerates mentioned above. Misys are very much focussed on cash generation, almost to the distraction of everything else, not that that's a bad thing. (Companies are ultimately valued on their future streams of cash. A company not generating free cash flow will not generate above average returns for shareholders.) The top management of Misys are ex-Hanson people, and they see their job as being allocators of capital. The cash generated from all subsidiaries is sent back to Misys HQ, from where it is allocated back out to the subsidiaries, but in different proportions, depending on each company's growth prospects. Some cash is used to pay off debt, and some is earmarked for future acquisitions. This is the role Warren Buffett, the greatest stock market investor of our time, plays at Berkshire Hathaway (NYSE: BRK.A), the company he chairs."
Bit of a mouthful really, wasn't it? And have you spotted the deliberate mistake? Not once have I mentioned or named an individual product that Misys sells. The fact that off the top of my head I don't know any is almost irrelevant. Whilst some companies are product led, others are service companies, led by fine managers. Is PizzaExpress (LSE: PIZ) a pizza company? I'd say not -- it is a service company that offers customers a comfortable, convenient, familiar and enjoyable "experience," and it just happens to sell pizza. They also sell pasta, and just to prove the company is more than a pizza seller, they have bought the Café Pasta chain and intend to roll that format out across the country. That's all down to the management and the company's focus on service. The same holds true for Misys.
Misys has a pleasant habit of beating analyst consensus forecasts, and I'm hoping tomorrow will be no exception. I'm not exactly sure what the most recent earnings per share (EPS) consensus forecast is, but the spreadsheet I'm currently running says 16.7p. Of more importance to me, however, is the cash generation, as this is one of the main attractions of the company. In fiscal 1998, Misys' cash from operations far exceeded its operating profits. Remember that cash is cash is cash, whilst operating profits are an accountant's opinion. Despite what the accountants say, cash is the only thing that really matters.
Of more importance to City analysts than the Misys numbers, unless they fall far short of consensus estimates (and this is unlikely), will be the company's outlook statement. As January 1st 2000 approaches, many people predict that companies will curtail their IT spending and rein it back to almost zero from now onwards. Obviously that will adversely effect companies such as Misys. Others predict that once the Y2K panic has passed, and for many companies that should already have happened, they can start spending on IT projects that have previously been neglected or de-prioritised. That includes the Internet and e-commerce in general. Banks in particular are looking to cut costs as competition intensifies, and the Internet and general IT spending will help them achieve that goal.
In their interim report, Misys said they have benefited from Y2K spending and don't expect the rate of growth they achieved in the first half of their financial year to be replicated. Expect them to say something similar tomorrow. Be prepared for the market to forget what it was told just five months ago and potentially overreact, thinking this is an irretrievable problem for Misys and its peers. Unless the news is diabolical, I for one won't be panicking. I bought a part ownership in this company because I believe in its management and its long-term growth prospects, and in the short time since I've owned the shares, nothing has changed to make me think differently. Bring on tomorrow.
Just as a reminder, we have the following two companies on our watch list. We consider them to be quality companies, and ones worthy of inclusion in the Qualiport. The only problem with them is the valuation. The Qualiport is aiming to buy companies when we have a margin of safety, with the aim of making 15% per annum returns, over the long term. After valuing the two companies below, we will consider buying them if and when they reach the following prices.
Glaxo Wellcome (LSE: GLXO) 1500p
Vodafone AirTouch (LSE: VOD) 1050p
The Glaxo share price has been weak for some time now, and it just could be that 1500p is breached in the next few months. They report interim results in the next few weeks, and I'm sort of expecting them to be uninspiring. As for Vodafone 1050p, we may need some sort of major market correction to see them fall that low. We're patient.
In the meantime, I invite all comments and thoughts to the Qualiport message board. See you on Friday, where I'll have a brief look at the Misys results.
Company Change Bid DELL(US)-1.80 41.00 EMA -0.11 11.06 IIG 0.00 2.94 MSY +0.03 6.19 PIZ -0.10 7.40 RTO -0.03 2.39 ULVR -0.17 5.77 Qualiport Stocks Last Rec'd Total # Company In At Current Change 27/10/98 755 Indep Ins 2.58 2.94 14.0% 22/04/99 347 Misys 5.76 6.19 7.5% 17/04/98 169 EMAP 11.34 11.06 (2.5%) 19/12/97 783 Rentokil 2.55 2.39 (6.3%) 04/11/98 245 Pizza Exp 7.93 7.40 (6.6%) 27/01/99 74 Dell (US) 44.63 41.00 (8.1%) 17/07/98 266 Unilever 7.53 5.77 (23.3%) Last Rec'd Total # Company In At Value Change 27/10/98 755 Indep Ins 1972.64 2219.70 247.06 22/04/99 347 Misys 2028.71 2147.93 119.22 17/04/98 169 EMAP 2341.32 2234.12 (107.20) 04/11/98 245 Pizza Exp 1966.34 1813.00 (153.34) 27/01/99 74 Dell (US) 2007.42 1838.79 (168.63) 19/12/97 783 Rentokil 2046.53 1871.37 (175.16) 17/07/98 266 Unilever 2052.00 1534.82 (517.18) Cash: £3,371.66 Current Total : £17,325.92 Total Invested: £17,031.39 Profit/(Loss) : (£1,153.23) Value Per Share Day Month Year Qualiport -1.08% -0.25% -9.44% FTSE 100 -0.97% 0.18% 7.60% FTSE All Share -0.89% 0.73% 10.99%