Insightful analysis and commentary for the US and global equity investor
Contributors: Douglas McIntyre Jon C. Ogg

Previous Posts

Friday, October 27, 2006

Gateway (GTW) Holder Firebrand Demands Decisive Action

From 13D Tracker

In an amended 13D filing on Electro Scientific Industries Inc. (Nasdaq: ESIO), Nierenberg Investment Management disclosed an 9.4% stake (2.74 million shares) in the company. This is up from the 8.3% stake the investment firm disclosed in a past 13D filing.

The firm said they continue to believe that there is a substantial gap between ESIO's current market value and its intrinsic value.

The firm disclosed a recent conversation with the Chairman and a separate conversation with the CEO, CFO, and the company's Director of Corporate Development and Investor Relations.

The firm said they believe that the combination of more proactive communications with the investment community and increased director ownership of ESIO stock could ultimately drive ESIO's share price closer to the company's intrinsic value.

From Item 4 of the Filing: Purpose of Transaction:

The reporting persons acquired the shares because we continue to believe that there is a substantial gap between ESIO's current market value and its intrinsicvalue. We believe this valuation gap persists even though the company has finemanagement, a fine board, a sound business strategy, leading market shares inits major business units, an attractive long term growth rate, and a fortress balance sheet.

In a friendly and constructive spirit, we have recently shared several ideas with the company in the hope that these ideas might, over time, help close the gap between ESIO's market and intrinsic value. This dialogue occurred in two conversations, summarized below, subsequent to ESIO's annual shareholder meetingof October 5, one with the Chairman of the Board of Directors and the other with the CEO, CFO, and the company's Director of Corporate Development and Investor Relations.

In our conversation with the Chairman, we noted that, according to ESIO's most recent proxy statement, none of the company's outside directors owned out rightany shares of the company's stock. We also expressed our belief that the financial community appears to attribute little value to ESIO's approximately$7.50 per share in cash when valuing the company. Finally, we noted how challenging it is for the company to earn a mid teen's return on equity (whichwe consider achievable) when half the company's equity sits on its balance sheet in cash and marketable securities which earn only a 5% pre-tax return.

We suggested to the Chairman that the ESIO board consider mandating that each outside director ultimately, over a period of time, hold a significant personal investment in the company's shares, which could be purchased in the open market or earned through board service in lieu of cash fees. We believe large director shareholding could more closely align the interests of the company's directors and shareholders and perhaps heighten urgency about driving ESIO to attain amid-teens return on equity. We believe that doing this could help close the gap between ESIO's market and intrinsic value.

Our separate conversation with the CEO, CFO and Director of Corporate Development and Investor Relations pertained to several other investors' apparent disappointment with ESIO's recently reported quarterly results. Duringt he company's earnings conference call, several investors expressed surprise and displeasure with the company's revenue guidance, both relative to their expectations and to the company's prospective shipments. This negative reaction was unfortunate because it appears to us that ESIO's several years of investing heavily in Research & Development is beginning to pay off in new products, increased customer penetration, market share gains, improved revenue growth, and widening margins.

The purpose of our conversation, however, was to suggest to management that the shareholders' disappointment with the company's revenue guidance was neither unreasonable nor unforeseeable. After all, investors have two fundamental preferences: they prefer linear growth over lumpy growth and they hate surprises.

Legitimate investor expectations about linear revenue growth create a challengefor ESIO for three reasons: (1) many ESIO products carry seven figure pricetags, which means that small variations in the number of units shipped in aquarter can drive significant near term revenue fluctuations; (2) ESIO sells to a highly concentrated set of customers, which means that small near term variations in ordering by a single customer can drive significant near term revenue fluctuations; and (3) ESIO is introducing many big ticket new products which customers will test thoroughly before accepting and paying for the products.

Therefore we advised ESIO management that they should bend over backwards to remind investors that these innocent factors can cause meaningless near term fluctuations in sequential revenue growth while the company can neverthelessremain on a healthy 15% + long term growth trajectory. In addition, we suggested that ESIO management consider guiding and characterizing financial results lessby individual quarter and more in terms of multi-quarter moving averages which could help smooth over insignificant near term fluctuations. Our belief is that such proactive investor communication could avoid the disappointment which occurred in the most recent earnings call.

In conclusion, we believe that the combination of more proactive communications with the investment community and increased director ownership of ESIO stock could ultimately drive ESIO's share price closer to the company's intrinsic value.

Sign-Up for E-Mail Alerts on ESIO (Free) and 13D Filings (Premium Only)

posted by Lon at 11:59 AM 0 comments

Gateway (GTW) Holder Firebrand Demands Decisive Action
In an amended 13D filing with the SEC on Gateway (NYSE: GTW) after the close, 10.7% holder Harbert Management/Firebrand disclosed a letter sent to the company on October 25 regarding actions it desires that the board of directors take. Specifically, the firm urged Gateway to de-classify its board, eliminate its shareholder rights plan and appoint three Firebrand designees to the board.

The group said, "As the scale of our share purchases suggests, we believe the opportunity to increase shareholder value is dramatic. However, we also believe it is perishable and demands decisive action on the part of the Board. We are troubled that the Board appears to lack the sense of urgency to address the Company's challenges and capitalize on its opportunities. A company with a great brand and channel strength, but 5.5% gross margins, requires a Board whose oversight and experience can aid in the development and articulation of a strategy to improve margins. We believe that continued inertia at the Board level is unacceptable. If, working together, we cannot leverage these assets, then they should be put in the hands of an organization that can (i.e., the Company should be sold)."

A Copy of the Letter:

Dear Rick and Ed:

I hope this letter finds the two of you well. The discussions we have had overthe last two months have confirmed our original thesis: there is nothing wrongwith Gateway that can't be fixed with what's right with Gateway. We believe there is a great deal of common ground and that we share a workable vision of how shareholder value can be restored.

As the scale of our share purchases suggests, we believe the opportunity to increase shareholder value is dramatic. However, we also believe it is perishable and demands decisive action on the part of the Board. We are troubled that the Board appears to lack the sense of urgency to address the Company's challenges and capitalize on its opportunities. A company with agreat brand and channel strength, but 5.5% gross margins, requires a Board whose oversight and experience can aid in the development and articulation of a strategy to improve margins. We believe that continued inertia at the Board level is unacceptable. If, working together, we cannot leverage these assets,then they should be put in the hands of an organization that can (i.e., theCompany should be sold). To that end, we are requesting that the Board do thefollowing:

- Appoint three Firebrand designees to the Gateway Board of Directors;

- Redeem the Company's shareholder rights plan ("Poison Pill"); and

- Call a special meeting of shareholders for the purpose of adopting an amendment to the Company's certificate of incorporation to declassify the Board.

The Board's skills set should reflect its needs. We believe the addition of three Firebrand designees will bring much needed domain expertise inbrand and design to the boardroom that can immediately aid management's efforts to create customer differentiation and improve margins. In addition, staggered boards and poison pills are relics of a by-gone era; weapons of mass entrenchment that do nothing but hamstring shareholder value.

The steps we have outlined above reflect our continued enthusiasm and resolve to work with the Board and management for the benefit of all Gateway shareholders. We request a response by October 31, 2006 to confirm your intention to comply with our requests. If we do not hear from you, we will take your silence as a sign of unwillingness to work together and will pursue these matters on our own, through the calling of a special meeting or otherwise.

As always, I'm reachable at XXX-XXX-XXXX or XXXX@firebrandpartners.com

Regards,

Scott Galloway

Firebrand Partners

http://www.13dtracker.blogspot.com/
 Subscribe

Powered by Blogger