Tuesday, 22 January 2008

Dipping my toe with Ansearch (ANH)

Well that was interesting. Australia's All Ordinaries index (XAO) plunged -7.2% today in concert with a global stock market meltdown. That's the biggest one day drop for the XAO since October 16th 1989 when it fell -8.1%. The fun really starts tonight when the US markets open up for the first time this week.

I've been on the sidelines for 14 months (the last time I bought a stock was 14 Nov 2006) waiting for such an event to pick up some bargain stocks. Instead of going in for a beaten down blue chip I went for something more speculative. I believe there is value in this company, however the earnings are less than certain as the company is at a turning point, going from losses, to possibly posting a maiden profit in the current half year.

Ansearch (ANH) is an online media company that generates revenue by selling advertising space on a network of search engines, portals and websites. The company specializes in delivering sponsored search, display and media advertising to Australian audiences and has recently partnered with US and UK search engines, websites and third party advertising networks.

The company has a number of partnership agreements, key among them an agreement with Google to deliver Google's Adsense for search program to Ansearch users.

The company has had a mixed past, previously the company was called Optum Health Limited and changed it's name to Ansearch in late 2005. Also controversy arose in the company's early stage of development when they were accused of redirecting traffic from popular sites to their own by listing hundreds of domain names of popular sites with simple misspellings.

More recently the company was embroiled in a boardroom brawl involving the CEO Dean Jones and other directors, chief among them, Glenn Ridge of Sale of the Century fame. Since then Ridge and another director have been booted from the board and Dean Jones the founder and driving force behind the company is back in charge.

In December last year the company announced the appointment of Adrian Giles as a director. Giles founded Hitwise in 1997 which grew to become one of the most recognised global internet measurement brands operating in the US, UK, Australia, New Zealand, Singapore and Hong Kong. The company was ranked as one of the fastest growing IT companies in the Asia-Pacific region for each of the past five years. Hitwise was recently sold to Experian for US$240 million.

Now to the financials. As can seen below ANH's revenue growth has been impressive. FY07 revenue grew more than 400% over the previous year.

Not as impressive has been the company's ability to convert that revenue growth into profit. Quarterly profit figures are not available so I used half yearly numbers in the chart below.

The trend is headed in the right direction. The 2Ho7 loss was just -$0.2m. The big question is whether they can continue that trend into profitability. The company's latest quarterly report suggests they can. In October the company reported a $0.74m profit before tax for 1Q08. The company is due to report their 2Q08 results by the end of this month.

Without predictable earnings it is impossible to accurately forecast second quarter and more importantly full year numbers. Whilst revenue will continue to grow it cannot keep up the current run rate. Therefore I have tried to be conservative in my forecasts.

Although the 1Q08 represented the company's first profitable quarter I have decided to assume no growth in quarterly profit for the remainder of the year. Instead I have just multiplied the 1Q08 number by 4 which gives $2.96m profit before tax. Not scientific I know, but I believe it is conservative enough.

The company has accumulated tax losses to offset profits. However in the interests of being conservative and to arrive at a more accurate valuation, I have assumed a 30% tax rate which gives NPAT of $2.07m for FY08.

According to the latest Appendix3B ANH has 557.8m shares on issue and just over 67m options, none of which are in the money. However I have assumed that the 12.4m options with an exercise price of $0.04 will be exercised (they have been in the money until today when the share price fell under 4 cents). If they are not exercised my valuation would increase marginally.

Given the above assumptions would yield a return on equity of about 30%. The company is debt free. Using a discount rate of 15% I estimate fair value at around $0.08 per share.

As mentioned earlier, the assumptions on profit are not solid and therefore there is definitely some speculation in buying the stock at this point in time. The grid below provides a range of valuations for different profit outcomes and by implication ROE's. As you can see, small changes in profit can cause large changes in the valuation.

I have tried to err on the side of conservatism however my forecasts may prove to be too optimistic. If that's the case the valuation goes out the window. However I'm taking a punt that this company has got itself together and will continue it's trend into profitability. We should know more from the 2Q08 report by the end of this month.