I am not here to knock the results. On an absolute basis, I think they were pretty good for a small company like MapInfo in a burgeoning new industry. Instead, I am here to analyze whether this company is worth the price of admission.
What jumped out at me was the lowered revenue guidance without a change in the estimate range on earnings per share. To me, that means the company will be focusing on cutting costs. That's OK for the short term, since it buys time and makes sure the bills get paid. But it might not be as good for the stock as would meeting those EPS estimates through higher revenues.
The lower end of the 2005 EPS range was $0.42, implying a forward P/E of 28 at the current price of $11.92. That seems a bit rich to me, considering that the company is growing sales at less than 20% per year. You see, the key for MapInfo is sales growth, and lowered sales guidance is not good.
As a provider of location-based information-software solutions, MapInfo has high gross margins (revenues minus cost of sales) of over 70%. That's because software does not have high production costs. By comparison, Nike's
It's good that MapInfo generates high gross margins, because its business model has high operating expenses. Software products must continually be updated and improved, and developers must always create new ones. The sales team has to get the word of new software to the street and requires lots of logistical support to do so. As a result, operating costs make up 60% of revenues.
But the operating costs have a fixed nature to them. Since 2002, MapInfo's operating expenses have grown 8.4% per year, while sales have grown by nearly 18%. By continuing to grow sales at less than 20%, the company will need more time to grow EPS to justify the current market value with a P/E of 28. In my opinion, the market is expecting more sales growth and is waiting for it to come. It's similar to way the market is waiting for Sirius Satellite Radio to fill in its customer base and for Google to fill in its cash flows.
Right now, I would not be a buyer because I do not like "fill in" situations. To me, they carry considerably more risk, and more risk does not always mean more reward. However, I think the industry is interesting and likely to grow. And I like the way management wants to create profitable growth, rather than grow at any cost. Unfortunately, as a value investor, I will have to wait for a better opportunity.