PLUSNET - the 2006 WAKE-UP Thread.

Well ladies and gents, is this now massively oversold? I suggest the evidence may be that it is.

Carphone ‘Whorehouse’ declared war on the Broadband sector in April when it said it was going to provide free Broadband to those who took it’s fixed line and mobile services called TalkTalk. A bold move and one that knocked PlusNet dramatically. Since the announcement PlusNet has shed 65% of it’s value. But was this declaration of war nothing more than Neville Chamberlain just waving a white piece of paper?

Is the sell off overdone?

We all know that punters tend to drive prices too high when over-confident and oversell a stock when they get overly gloomy about its prospects. So are we there and at a very oversold position? I suggest we might be and here is the evidence.

Firstly lets look at the chart. If you join the lows of these dates:

Low 9 March
Low 12 April
Low 25 April
Low 26 May
Low 12 July

You’ll see we have made a nice curve to where the chart is now nearing or at a potential bottom. If you look back at the chart you’ll see there is good PAST support around the current level in the past too.

Enough of charts, I’m not a fan of charts as a single yardstick so let’s look at the facts. Prior to the Carphone Warehouse announcement PlusNet were expected by brokers to do 19p eps (£7.9m pbt) this year, 27p eps (£11.45m pbt) in 2007. At 400p it traded on a PE of 21 for this year, 14 for 2007. The price has now fallen back to 130p a share. Now what sort of performance would make PlusNet a buy at this level? I would say having grown earnings strongly and consistently then 16.5p eps this year and 20p next year would be 20% earnings growth on a forward PE of 7.5. If PlusNet achieved this then I would consider them a screaming buy with 20% growth on a fwd PE of 7.5. Remember, this is a company who over the past 5 years has grown eps from 1.92p to 2.68p, 4.71p, 7.23p to 13.77p - that’s a fantastic earnings growth record and they haven’t yet disappointed.

But Carphone Warehouse are now slaughtering them right? Well I’m not so sure. Do we all want all of our communications with one supplier? I think I’d sooner have 3 individuals that were good rather than one mediocre supplier for the whole lot. I’m not keen on BT as a telecoms company but I’m even less keen on these ‘sorts’ that call me during the day, say they are part of the BT network (a blagger’s way of trying to make me think they are part of BT) and trying to get me to switch supplier. Punters return to BT regularly because price isn’t everything. At the end of the day nothing is free. You get the service you pay for in the main and if Carphone Warehouse are spending £100m, £200m or whatever on giving you ‘free’ broadband you are going to pay for it in service or charges somewhere else within TalkTalk. I think that it may create more churn, I think TalkTalk may steal some clients from the poor service providers but I think the good providers may well retain the bulk of their customers and may actually be able to out-grow the small amount that migrate.

Carphone Warehouse have no experience with Broadband. Service isn’t just about price. It’s about knowing what customers will want, reliability, providing the extras like webspace and generally being ahead of the game and knowledgeable in what you do. There’s nothing worse than getting a ‘know-nowt’ on the end of the phone when you have a problem, especially with what is now ‘life and death’ internet connection.

PlusNet have a pretty good reputation of providing good service. Yes, you’ll hear a few moan but then when they look elsewhere they actually find that the alternatives are not as good. And you rarely get customers going out of their way to praise a service they are happy with - mostly they want to complain. I held PlusNet up from the low £1 to £3.50 and saw a number of people complain on the BB about PlusNet service but it didn’t prevent them growing profits rapidly or the share price quadrupling. If you want to see how well PlusNet shape up to TalkTalk then have a look at this independent guide:

http://www.adslguide.org.uk/isps/compare.asp?plusnet=ON&talktalk=ON&cmp_action=Compare

TalkTalk seem to be less than impressive and declining.

Have a look at the PlusNet Website:

http://www.plus.net/index.html?pn_session=3a50ac892da31f7f21e1ae4737801d04

"PlusNet tops uSwitch.com customer satisfaction survey with 92%"

I don’t know about you but I think uSwitch is a place where people go that want the absolute best deal, so it’s interesting their visitors think PlusNet is the best for service with a 92% rating.

I use a router for multi PC connection. I just looked at the TalkTalk package and what if you want a router - it says:

“Most ADSL routers sold in the UK will be ready to connect to TalkTalk Broadband. The settings should be as below. If you have any problems with your router, please contact the manufacturer. We can't offer any support for hardware we haven't supplied.

VPI = 0
VCI = 38
DNS settings (primary) 62.24.199.13
DNS settings (secondary) 62.24.199.23
Authentication = CHAP
Encapsulation mode = PPP over ATM (PPPoA). VC-MUX

You will also need your TalkTalk Broadband username and password. You'll find these in the welcome letter we sent.”

I don’t know about you but that has definitely put me off changing and I bet most punters are like me in that this sounds like a disaster waiting to happen to the average bod. If it works, stay where you are is my maxim. TalkTalk have nothing to say when they give you router problem. What about change of email address? Another pain if you don’t have your own domain name.

So I’m not convinced Carphone Warehouse is having as big an impact as the share price suggests. Have the shorters been over-confident in thinking this is a one way trip? It’s lost 65%, that’s a heck of a wipe off if PlusNet are only seeing a minor inpact. After all, they have announced a results date for the interims but haven’t put out a warning. I’ve seen brokers reiterate buy ratings but none have said sell. What’s more a 65% decline means that they now gain 85% if they only get back to half way towards the old high - reach the old high and they have put on 170% There are 8m broadband users in the UK and there are expected to be 20m by the end of the decade according to the Telegraph. On that basis PlusNet has less than 2% of the market with the market expected to grow 150% in 4 years. That still leaves an increasing market if Carphone Warehouse and Sky achieved their targets, which I think are way to ambitious.

The company had their AGM in April - they said:

“Continued customer growth, combined with a low cost, efficient operating model is expected to drive further progress in the financial year ending 31 December 2006 and the outlook remains very positive.”

Pipex, another broadband plc, had a trading statement on July 12 - they said :

“Pipex Communications plc (PXC), a major provider of integrated telecommunications and internet solutions including broadband, voice, domain name registrations and hosting, announces that trading for the half year to 30 June 2006 will be ahead of market revenue expectations and materially ahead of profit expectations.
Group revenues are up 86% against the same period last year. Gross margins for the period are 38%, principally as a result of the increased contribution from line rental revenues following the Homecall acquisition in March 2006. Excluding these revenues, gross margins were 42%.”

So it doesn’t sound like Pipex have been hit too bad by TalkTalk.

Is it backfiring on Carphone Warehouse? If they are letting people down with broadband perhaps those customers are ending their fixed and mobile accounts when they get let down, something definitely looks wrong with the Carphone Warehouse share price of late. Perhaps Carphone Warehouse are feeling less committed or are trying to do a £400m job with £200m cash. Are they really going to continue to provide the service for free? Will customers see the land line and mobile lines get more expensive to pay for free Broadband? If it does then the deal doesn’t look like the freebee they say it is.

SKY

Sky are launching their free service Tuesday. Will current Sky subscribers want it? Will you be happy in a queue system to India when your broadband goes down and getting someone halfway round the world telling you how to re-boot your router? Or do you want to stick to a dedicated Broadband supplier who knows what they are talking about and work out of the UK with clued up guys that understand what they are talking about. Remember we are talking about saving £3.50 a week here, a packet of ciggy’s or a Big Mac for potential grief beyond belief. Is it going to give you the webspace and the flexibility that a broadband company give? Sky has been going 25 years nearly, they have achieved a third of UK households. Are they really going to make the in-roads into broadband that people think if they have still only captured a third of households for Sky?


Perhaps there will be exceptional restructuring costs at PlusNet interims but with the share price off 65% there’s a lot of bad news in the price now and a fair bit of exceptions is probably priced in too imo.

With the interims two weeks away on Aug 1 are the shorters going to hang out for a risky little bit more and stay short till after the results or are they going to play safe and close in the run up to the results?

In April Carphone Warehouse said:

"LONDON (AFX) - UK mobile phone retailer Carphone Warehouse PLC warned that its long-awaited entry into Britain's ultra-competitive broadband market will cost it more than 100 mln stg in the current financial year. The launch of its what it describes as "free" high-speed internet access will require an initial investment of 110 mln stg, with the new broadband business expected to post an operating loss of some 50 mln in the year ending in March, 2007, said the group."

Carphone Warehouse are lumping out £110m this year to get their broadband service up and running. No experience, bound to be big teething probs etc and sure to cost more than they expect as it always does. They will lose £50m this year on it. So they are going to lash out £110m to lose £50m.

Meanwhile PlusNet is experienced, has a great reputation, reliable, profitable and currently valued at a meagre


£36m.


Think about it - instead of wasting £110 to lose £50m they could just buy PlusNet for what? £50m and get a profitable outfit that knows what it's doing better than most? Of course they'd easily get it for £50m because everyone thinks it's worth far less than that it seems. Or anyone else could buy them of course.

Carphone Warehouse’s declared aim is to have 3.5m broadband customers by 2009. That would represent 13% of the total market for broadband. Firstly that is an ambitious target imo. Secondly if they did achieve it they are looking to take around 4% of the total market p.a. for 3 years to achieve that. If they did achieve it evenly across the board they would be stealing something like 9K of the 176K customers PlusNet has when PlusNet has been growing customers by 80K p.a. Does that destroy PlusNet? I would argue that PlusNet being one of the better suppliers would lose less in percentage terms than the poor performers or smaller ISPs that go out of business.

So the potential risks - PlusNet really are being affected, profit forecasts halve perhaps. 13p eps next year on a PE of 11. I’d say if that’s the case you might see these come off another 10% after this 65%? Sky are having a bash at it as well and launch there’s Tuesday - they are throwing similar money at it but analysts seem less than convinced that we want an all in one package.

http://www.telegraph.co.uk/money/main.jhtml;jsessionid=TNPOEBXIRZYQDQFIQMGCFFOAVCBQUIV0?xml=/money/2006/07/16/ccsky16.xml

The potential reward - PlusNet are actually affected in a minor way, they do 24p eps next year and miss forecasts by 10% - might see them double in short order on that sort of news. Remember current forecasts for next year have not been reduced yet. If they actually still made 30p eps forecast of Bridgewell they are currently trading on a fwd PE of 5.

Are Carphone Warehouse and Sky going to steal that much business from the better providers like PlusNet that they are only worth £42m instead of the £100m they were worth prior to the Carphone Warehouse news?

I actually think Carphone Whorehouse and Sly moving in could even be argued as a positive for PlusNet - think about it. The companies these two are likely to hit hardest are the smaller, less efficient ISPs. Lets say LittleNet has 20K customes and Carphone Whorehouse drives them out of business. Carphone doesn’t pick up the the whole 20K customers. They can expect to get a proportion and so can Sly but a number of those will migrate to PlusNet too. Sly and Carphone Whorehouse might just be thinning out the numbers and actually working in the favour of PlusNet, Pipex etc. Perhaps that’s why Pipex say they are ahead. Might be that we end up with 20 major players rather than 60 odd and there’s more business on better margins for the survivors.

Oversold?

Will the shorters be greedy and risk waiting for the results and a potential big bounce or will they close before the results and exacerbate the buying?

A thinking man’s decision imo


CR