Friday, March 16, 2007

Luck 'o the Irish

Was it financial genius or just Shamrock charm that energized the initial public offering of BigBand Networks? Trading on the Nasdaq National Market under the symbol BBND, the stock closed at $17.00 on its first day of trading - an increase of 31% from the IPO price. BigBand sold 10.7 million shares priced at $13.00, of which 7.5 million were sold by the Company and 3.2 million by certain shareholders.

This kind of reception on Wall Street these days is remarkable. China’s stock market is shakey. Home mortgages are coming unraveled here in the U.S. BigBand is no glamour stock. It sells network equipment to cable television companies. Granted almost all the cable television players are customers both in the U.S. and around the world. However, the largest five cable U.S. cable franchises - Time Warner, Comcast, Verizon, Cablevision and Charter - account for almost all (90%) the BigBand’s revenue. Wall Street seems to have dismissed customer concentration concerns.

It took a “big band” of underwriters to pull off the deal given its size. The lead underwriter group included Morgan Stanley, Merrill Lynch & Co., Jeffries & Company, Cowan & Company and ThinkEquity Partners, LLC. Perhaps it was the influence of its largest shareholder, Redpoint Ventures, which owns 23% of BigBand.

Promoters had a great deal with which to work. BigBand sales nearly doubled in 2006, as cable providers latched onto the so-called “triple play” service offering. BigBand’s equipment allows the “cable guy” to set up sophisticated networks in the home that give consumers three services in one - video (television), voice (telephone) and data (Internet).

Cable is showing strong advances against telecoms and other Internet services providers, but there will be a satuation point. How long can BigBand sustain such highly flying top-line growth? Is there room to grow profit margins from the 47% level recorded in 2006? If the answers are “not long” and “not much,” then the valuation of 81 times trailing earnings that investors paid for the IPO shares was probably too high.

BigBand has racked up a deficit of over $100 million and just turned profitable in 2006, with net income of $8.9 million on $176.6 million in sales. It is going to take a substantially higher net profit margin than 5% to clear the deficit and give new shareholders any value.

Certain shareholders found value by selling shares in the offering, although it is clear that no one was running for the exits. Four members of the directors and officers group sold 1.0 million shares bringing their stake down from 16.4% to 12.4%. After the offering all insiders together own just over half of the Company, a figure which is distorted a bit since insider shares included those held by Redpoint Ventures, Charles River and Cedar Fund since they have board representation.

A number of other shareholders sold shares, but none sold 100% of their stake. The most telling of this group is Time Warner Cable, both shareholder and customer. Time Warner let go of just 360,140 shares, reducing its ownership from 4.1% to 2.9% following the deal. Evergreen Partners, Pilot House Ventures and Cedar Funds together sold 1.9 million shares, reducing their collective ownership from 22.1% to 16.2%. They are still in for the next growth stage.

Of course, there is the after market. Lock-up agreements will keep insider shares from hitting the market for 180 days from the IPO date. Other shares issued before the offering are also subject to Rule 144 restrictions for a period of time. In September 2007 we will see whether the luck of the Irish is still setting the tempo for BigBand Networks.

Neither the author of the Small Cap Copy web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.

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