QUALIPORT
MMT's Profit Warning Plunge

By Maynard Paton (TMFMayn)
April 2, 2001

Carburton Street, London -- My Rule Shaking colleague TMFJimmyC wrote a very timely feature on Friday. It covered the thorny subject "What To Do About Profit Warnings". The article comes in very handy -- Qualiport member MMT Computing (LSE: MMT) announced today that its full-year profits would be below forecasts. The shares plunged 18% on the news.

TMFJimmyC wrote: "If you hold shares in a company and it issues a profit warning, the first thing to do is to keep a clear head. Panicking isn't going to help you make a decision at all. The second thing to do is to ask, "Do I consider the shares to be attractive, according to my criteria, at the current price?" If you do, then you hold on. If you don't, then you'd better get out."

"In coming to this decision, it's worth thinking hard about what caused the warning in the first place. Is it down to short-term economic factors that are beyond the company's control? Should the company fight back relatively unscathed in a year or two's time, or has its key product or service blown up in its face?"

With a clear head and without panicking, let's go through the two main parts of the MMT statement.

Business and IT solutions

"MMT's Business and IT solutions division has experienced uneven trading conditions so far this financial year with varying demand for Internet and client server solutions and also for our time and materials IT consultancy where rates have been under some pressure."

It's disappointing to hear of "varying demand" for Internet and client server solutions. Just six months ago, MMT had repositioned itself to cater for the growing client requirements in this area, the company then commenting upon "good growth" for Internet-related work.

The burning question is whether the "varying demand" is either industry-wide or just MMT-specific. Given the numerous profit warnings from others in the IT industry, my hunch is that it is a sector problem. The pressure on rates for time and materials IT consultancy isn't so surprising, it being highlighted at the full-year results stage in November.

Overall, I can't imagine the soon-to-be-announced first-half performance for this part of MMT's business being drastically different to the Y2K-impaired second-half results of last year. In the circumstances, that isn't too bad.

MMT Energy

"Following delays in the deregulation of the US energy market and a slowdown in demand for our energy products and services in the mature UK market, product sales for MMT's energy software and services subsidiary (MMT Energy) are below our expectations. Prospects remain strong in Europe but have slipped back in time. Also, higher levels of investment than anticipated have been required, and will continue to be required, to retain client interest in this market. The benefits of this investment will only be evident in the medium to long term. As a result, MMT Energy is expected to be loss making in the financial year to August 2001."

This is very disappointing, given that MMT's energy division had contributed 25% towards group profits last year. What's more, the company had described the subsidiary as requiring only "some product development" to exploit current opportunities in November.

Even though I highlighted the dangers of MMT Energy's lumpy income in this feature ("a few prospective Energy customers not wanting MMT's software could severely damage the company's growth prospects"), I'm taken aback at the scale of the downturn. Whilst increased development costs will undoubtedly hinder the division's profits, moving from significant group contributor to loss-maker in six months doesn't inspire much in the way of operational predictability.

Although MMT appears to be confident of future Energy success ("The benefits of this investment will only be evident..."), there's no guarantee that the prospective customers will still be wanting MMT's software in two or three years' time.

Unlike the general Internet work, the deterioration at the Energy division is much more MMT-specific. Attributing the downturn in part to the delays in US deregulation (MMT has remarked in the past that significant US progress was still some years away) and that European prospects have simply "slipped back in time" suggest all is not well. No wonder MMT recently announced it was discussing the possible disposal of this division.

Valuation and Summary

With the level of future earnings cloudy to say the least, it makes sense to focus on the dividend yield to gauge a valuation for MMT. If the company maintains its 19.8p per share dividend for the current year, at 285p, MMT shares offer a prospective yield of 6.9%. When considering MMT's prospective dividend, it's worth bearing in mind the company had a cash pile of 51p per share at the end of August, a level high enough to help sustain a suitable payout should profits take a sharp near term decline. It's also comforting to note that during the early nineties recession, MMT continued to improve its dividend payments even though profits halved.

Another point to consider is the structural change occurring within MMT. Managing Director Tony Grellier is on the way out this summer (and now we know why); his replacement, Paul Marks, is the MD of MMT's management consultancy division. Given the new appointment, this operation would now seem to be a major feature of MMT's future, especially as it's the only area that has shown "continued growth" over the past few months.

In the medium to long term, I can only see blue chip demand for Internet developments and management consultancy increasing. MMT should be a beneficiary with its range of services. However, I'm more circumspect with the Energy software side of the company. Disposing of the "lumpy" Energy business, leaving MMT to focus on more predictable IT and management consultancy, is a good move for shareholders with a prediliction for predictability.  

Undoubtedly, MMT is in a state of flux as it reshapes its management and business direction. However, the original investment case, that of MMT recovering to benefit from the long-term growth of IT and e-service requirements, still stands. And with the generous yield, I can't see any case for selling on "overvaluation" grounds either. MMT's interim results are due in May. Until then at least, the Qualiport remains a shareholder.

Your turn

With MMT Computing shares falling 18% to 285p after today's profit warning, what is your investment opinion of the company?

* Buy
* Hold
* Sell
* Don't know

Click here to vote

More Interview with Tony Grellier | MMT's Reposition for Recovery