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The Day Ahead: Modem Media is a Net services bargain

Modem Media CEO may have a point about undervaluation
Written by Larry Dignan, Contributor

GM O'Connell, chief executive of Net services company Modem Media.Poppe Tyson, said he thinks his company is undervalued. And maybe you should believe him. Plenty of Wall Street analysts do.

In a recent interview with Inter@ctive Investor, O'Connell said Modem Media isn't receiving the rich valuation that other Internet services companies are getting. Services companies, which bring others online via consulting, design and infrastructure, are plentiful these days, but also profitable. Demand is so strong that companies are begging for help to launch e-business initiatives, and services firms are more than willing to oblige.

Modem Media is trading at a discount, but hasn't exactly been hurting. The company recently issued a stock split and is up about 400 percent from its 4 February 1999 IPO. Compared to its peers, however, Modem Media is a bit of a bargain, said analysts. In fact, it trails nearly all the Net services firms in market capitalisation. Modem Media's market cap is under $1bn (£62m).

Chief executives frequently make the case that their companies are undervalued relative to their peers, but O'Connell may actually have a point. Modem Media recently crushed Wall Street estimates in the fourth quarter with a profit of 13 cents (8p) a share on sales of $24.5m (£15m). Modem Media has also diversified its blue-chip roster of clients -- no customer will account for more than 10 percent of revenue in 2000.

The company also launched a "me-business" network, which will give clients a turnkey platform for ad-serving and affiliate marketing. Analysts said Modem Media's me-business strategy is a key differentiator.

The company recently won a three-year, $30m (£18.6m) contract from General Motors. According to O'Connell, the company won the account amid stiff competition from iXL, Agency.com, Proxicom and USWeb. That's a lot of good news, but the company still trades at a discount. In a recent research report, CE Unterberg Towbin analyst Tara Long said Modem Media is trading nine times her 2000 revenue estimate of $130m (£80m) -- the industry average is a 14.5 multiple. Only Xpedior looks like more of a bargain.

Long's report was issued on 16 February when Modem Media shares were trading at 96. At Wednesday's closing price of 79 3/4, the company is even more of a bargain -- it's trading at about seven times its revenue. Long has a price target of $150 (£93).

"Modem Media is trading at less than half the valuation of its peer group on a multiple of revenue basis,'' said Robertson Stephens analyst, Steven Birer, in a report. "We believe this discount is unwarranted, and the stock has the potential to move more in line with its peer group multiple.''

So why is Modem Media lagging its peers? O'Connell had a few plausible theories. For starters, Modem Media went public too early -- so much for that first mover advantage theory. Modem Media went public in February 1999, and Net services stocks got hot in the spring and summer and kept going into 2000. The spring and summer IPOs of Razorfish, Viant, iXL, AppNet and Scient set the stage for a glut of services companies. Agency.com was among the latest and largest Net services hits. "I think part of it was timing," said O'Connell. "We went early."

Because Modem Media went public before the Net services euphoria, the company has missed out on the buzz, despite a run of strong quarters. O'Connell reiterated projections for strong revenue growth and international expansion. In 2000, Modem Media will see a quarter of its revenue from international clients.

Aside from timing, Modem Media also has to market itself to Wall Street. That's a strange statement, considering the company advises others on marketing and advertising. "We've been marketing to the client, but haven't done a great job telling our story to Wall Street," said O'Connell.

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