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With full-year results from Misys and interim results from Lloyds both due to be published next month, and the half-yearly stories from Independent and Dell expected in August, now appears to be a prudent time to start revisiting the four businesses and prepare ourselves for the upcoming numbers.
I'll kick off with Misys. Today, I'll review the historic financial performance of the IT company, while on Wednesday, I'll delve into the current state of play, recent developments, valuation and prospects.
Misys, after its 1979 birth, began life as computer systems developer for insurance intermediaries. After its flotation in 1987, it aimed to broaden its activities through acquisition. Several smaller purchases later, Misys stepped up a gear during the mid-nineties. Four large paper-based acquisitions established the group as a leading player in the provision of software to the banking and financial industries. In 1997, Misys also ventured into the US healthcare industry, with the acquisition of systems supplier Medic. Again, Misys issued extra shares to fund this purchase.
The group has continued the focus towards its original insurance systems during the evolution into the banking and healthcare arenas. A number of "non core" operations, such as systems for hotel bookings, hardware installers and general bespoke IT consultancies, have been sold on the way. Boosted by the corporate activity, group turnover has soared from the £8m recorded in 1988 to £582m during 1999.
Here's how the group presents its recent financial record. It shows the cumulative affect from the lower margin business disposals, but investors are left in the dark as to how the "continuing acquisitions" have impacted the financials.
There are two issues with the historic record of Misys and its acquisition spree. Firstly, the companies bought were very big and have transformed the company to become involved in totally different areas. So the first question to be immediately asked is "Does this company have the inherent ability to grow without the need for large doses of corporate activity?". In my book, there's no growth like organic growth.
The second issue concerns the "murkiness" of the financial performance at Misys. Although sales are up, margins are up and earnings are up, trying to get a handle on the underlying accomplishments at Misys over the past couple of years is difficult.
Although profits have risen substantially during the 1990s, it has all come at a cost, the major expense being received by the vendors of the purchased businesses. Calculating the incremental return on equity should give investors a rough idea as to the effectiveness of how Misys, through the acquisition-driven series of rights issues, has reinvested money raised from its owners.
Misys generated post-tax profits of £6.2m in 1992. Adjusting for goodwill write offs, the group generated £90.3m of earnings during 1999, an increase of £84.1m over the seven years. At the end of the 1992 financial year, Misys had shareholder's funds of £108.9m after having added back £93.8m of goodwill previously written off.
Fast-forward to 1999 and year-end shareholder's funds were £771.1, after having added back a heavily swollen goodwill reserve of £992.3. Thus, Misys have added £662.2m to the equity base in the seven intervening years.
Dividing the £84.1m by the £662.2m gives an incremental return on equity of 12.7%. Although the lowly figure is understandable through the effect of the acquisitions, it's still quite an unimpressive performance considering Misys operates in an industry renowned for high returns. The Qualiport's other IT software and services company, MMT Computing (LSE: MMT), has managed a 33% incremental return in the past.
Here are two other ways of monitoring the progress at Misys. Because of its enthusiasm for printing paper, determining whether additional sales have been captured purely through the issuance of extra shares can be deduced by scrutinizing sales at the "per share" level.
Also, as Misys is a "people" business with its staff being the major asset, examining how the sales per employee ratio has changed over the years could shed some light onto the cloudy historic performance.
After the return on equity performance, this looks better. Sales per share have compounded at a rate of 14.7% over the last seven years. That gives a very rough, if maybe a little high, indicator of organic growth during the period. It's also pleasing to see the rate of overall sales growth outstripping the rate of employee numbers. No real problems here.
One of the great aspects of Misys in the past has been its cash profile. The working capital characteristics had, up until 1999, been great. A typical example would be 1998, where after generating £100m in operating profit, an extra £36m was generated within working capital movements. The company has a simple reason for its grand record of spewing cash from its operations. Customers have to pay recurring licence fees upfront to use Misys software.
One rather worrying sign from the 1999 accounts was a decrease in this deferred income. Just to clarify, deferred income is that income for which the cash has been collected by Misys, but have yet to be "earned". For example, a customer pays their annual software licence upfront on the 1st Jan. As the Misys financial year-end is 31st May, Misys would only be able to record five months of the income as turnover in the profit and loss account. The rest would be accrued in the balance sheet as a "deferred" creditor.
The beauty of a deferred income entry in any set of accounts is that it reassures investors of the short-term turnover still to filter through the profit and loss account. And just as importantly, any alterations in the level of deferred income can be a forewarning of changes of group turnover in the forthcoming year.
Total deferred income dropped from £124m in 1998 to £112m in 1999, no doubt I assume through Y2K related postponements. With deferred income historically running at around 20% of the subsequent year's turnover, we could estimate that the current year at Misys will see total sales of approximately £560m.
MalcolmP describes his former employer very well in this post. From my above calculations, I have to agree. I'm always suspicious of companies that make a series of large acquisitions, Misys included. Although there's nothing sinister in the figures, although the returns on shareholders' equity are very average, the purchases do speak volumes in the "management creativity" at hand. My gut feel from the rough calculations suggests that organic growth at Misys has compounded at somewhere between 10-15% over the last few years, a figure which is just about acceptable given the boom in IT services over that period. Again, this reasonable growth perhaps ties in with the management creativity factor. Where Misys do score within the financials is in terms of efficiency. Increasing margins, staff productivity and their liking for cash earnings are all welcome signs for any investor.
For now, I'll leave a quote from MalcolmP for you to ponder:
"For an IT company, they are better at managing businesses than investing in technology development. So I would question how sustainable the long-term growth is. How many of the products that they sell were developed within the group? Not many."
On Wednesday, I'll review the current makeup of the Misys business, various Internet developments on the go and its valuation. Your comments are welcome and can be directed to the Qualiport discussion board.
Related Links
• Misys Post Y2KMisys -- A Brief History
Financial Record
1999 1998 1997 1996 1995
Turnover
-- continuing (£m) 549 382 219 178 79
-- discontinued (£m) 33 66 106 102 75
582 448 325 280 154
Operating Profit
-- continuing (£m) 134 93 55 42 18
-- discontinued (£m) 2 7 9 10 7
136 100 64 52 25
Operating margin
-- continuing (%) 24.4 24.3 25.1 23.6 22.8
-- discontinued (%) 6.1 10.6 8.5 9.9 9.3
23.4 22.3 19.7 18.5 16.2
Earnings per share (p) 16.7 13.3 10.6 8.7 7.0
Cash flow per share (p) 18.3 21.9 9.3 10.2 5.8
All good stuff on the overall sales, profit and margin front. Here's my best guess as to how the acquisitions stack up when it comes to the top-line.
Purchase Sector Date Cost Annualised
Sales (approx)
Kapiti Finance Apr 1994 £41m £60m
ACT Group Finance Apr 1995 £195m £190m
Frustum/Summit Finance Dec 1996 £94m £57m
Medic Healthcare Sep 1997 £580m £110m
Performance
Incremental return on equity
Sales per share and per employee
Year Sales Employee Sales Sales
(£m) Numbers per Employee per Share
(£) (£)
1992 68.0 1,048 64,907 38,893
1993 88.8 1,353 65,603 45,308
1994 93.4 1,467 63,638 45,928
1995 153.4 1,999 76,735 57,940
1996 279.9 3,441 81,333 66,841
1997 325.5 3,962 82,147 74,855
1998 447.7 4,962 90,903 89,335
1999 582.0 6,065 95,960 101,712
92-99
Compound
Increase 35.9% 28.5 % 5.7% 14.7%
Deferred revenues
Brief Summary
• A Misys Savoy Jolly
• More On Misys
• Misys, a Bit Less Mysterious
• Miserable Misys
• Misys Preview
• The New (Misys) Toy
• Misys Snapshot
• MalcolmP on Misys
• TMFFoolUK on Healtheon
• Misys discussion board
• Misys Website
• Incremental return on Equity