Globo issued some Interim Results this morning (29/9/2014). The announcement created quite a debate on some bulletin boards because of varying interpretation of the results. It only merits some comments from me because ShareSoc has published articles on this company before, particularly after it came under attack from shorters who primarily questioned the poor cash flow, capitalisation of development costs and several other aspects of the company’s operations (see our November 2013 newsletter). That caused the share price to collapse from which it has not yet recovered.
The latest results appeared positive – revenue up 45%, EBITDA up 23%, free cash flow of €4.2m and a net cash position of €46 million. But the detractors on bulletin boards were not accepting the news was good.
Let me remind readers that I do have a small interest in this company but I do not actively trade the shares. I am going to comment on this primarily from the perspective of someone who has run these kinds of software businesses in the past. One of the good things about this company is that they are very open with shareholders and anyone could dial-into the results presentation this morning and hear what Costis Papadimitrakopoulos the CEO had to say (I give some notes on it below). It’s also worth looking at the results presentation slides which are available from their web site.
Forget the accounting issues for the present. Where exactly does this company stand in the BYOD space versus its competitors and how is it developing the market? Now the company very kindly enables you to download a recent Ovum report on this market segment and where its key product Go!Enterprise sits (Ovum are a major IT consultancy). It’s clearly a very fragmented market as yet with lots of players battling for position, but growing rapidly (forecast to be $7bn by 2017 according to IDC). Ovum rates Globo to have a very well-rounded EMM solution with its MADP features a particular strength. But overall it still rates Globo as a “Challenger” rather than a market leader because it’s customer base is still relatively small, particularly in the USA where all the real action is taking place (as with any major new software market). The main threat is therefore that competitors will grow more rapidly. Everyone interested in Globo should read the Ovum report. But bearing in mind the history of Globo, it’s very positive that technically they score well in this report on several parameters.
How is the company tackling the competitor issue? By gearing up in the USA with more sales people, doing more direct sales, and the CEO has also moved to the USA to drive it forward (this will enable him to monitor the US market much more closely as all the major competitors are based there, as he pointed out).
This is all positive news, but building a successful US sales force will take time as I have said before. Progress is surely as good as can be expected bearing in mind where they started from (namely being a small Greek company – just getting included in the Ovum report is a major achievement).
In addition to investing in expanding the US sales operation, they also need to invest technically to round out their product (even though it already stands up well), and create the supporting infrastructure to be credible to major accounts in the US market and elsewhere. So it’s actually quite surprising to me that they can declare any profits at all in this phase of their business development. It is somewhat helped by the other businesses that the company has, but as the detractors pointed out there is a whacking big item on the cash flow statement in the interims of €12.7m for “purchases of tangible and intangible assets” – double the last interims figure. Without that, profits would be much lower. This is obviously mainly the capitalisation of software development costs.
Is it right to capitalise such costs, and if so does it reflect reality? According to current accounting rules you have to do so unless it is strictly “research” rather than “development”. In other words unless you consider it is purely speculative, and may have no certain value in future, you need to do so. That is undoubtedly the correct accounting treatment. As this company has raised questions on its accounting and audit practises in the past, I would be pretty certain that they have been quite careful about this.
I do not agree with those financial analysts that argue one should “adjust” the reported accounts to write off such capitalisation. It does reflect the reality of what the company is investing in assets (namely intangible software products) which are the core of its business. We know those products are saleable because they are selling them now, so it surely is justifiable to do so. Of course one needs to keep an eye on whether those developments are becoming worthless – obsolescent or unsaleable for any reason, but for a software company manager the accountants who set the current capitalisation rules surely made the right choice to ensure the accounts reflected a “true and fair view”, and likewise for investors. The market value of these businesses closely reflects their investment in intangible assets because that is what generates sales and profits. Regrettably some of the commentators on this issue do not seem to understand the dynamics of software companies and the underlying realities that are reflected in their accounts.
What else did Costis have to say on the conference call of interest? He mentioned market consolidation and that they might be doing more acquisitions in future. He said they were well positioned to exploit the market opportunities and said the second half will be particularly good in the USA. He argued that they were operating in a fragmented and difficult to understand market environment (this means there are no “gorillas” in this space which is good for Globo and means there is room for a number of companies to make decent profits). Even very large customers fail to understand the complexity and hence Globo provide services to assist implementation. Costis emphasised however that they are not becoming a service company, but are a product company (this and the de-emphasis on the Ingram relationship with most of the focus on direct sales is positive in my eyes because that’s how to make money in software businesses in my experience).
Another positive sign is they appear to have crossed over from simply selling to “early adopters” to more mainstream businesses, i.e. they have “crossed the chasm” – a famous phrase in the IT marketing world. Accounts are not everything when evaluating software businesses for investment and anyone who picks software companies for investment purely based on their accounting ratios is likely to be seriously misled. All successful investors try to understand the business models and markets of companies they invest in. If you don’t understand the business, don’t invest in it!
So Globo looks positive on a business perspective, but clearly as I have said before this company remains a “work in progress”. You need to consider the relatively low market value of the company from that point of view but certainly if I was sitting in Palo Alto among their competitors the possible trade price of the GO!Enterprise business alone (ignoring the rest of the revenue) looks very reasonable. I wonder if they have had any offers of late? But they clearly can’t be in play because after writing this article I noticed that Costis just bought another 50,000 shares in the market which may tell you something.