Saturday, February 9, 2008

Draft Letter to Institutions

This is a letter I will be sending to other institutions to get more active with their shareholding. Please send me any comments you have. I plan to send the letter starting on Monday (there are a ton of holders so it will be as many I can get emails on).

Dear Sir or Madam,

I am a shareholder in UTStarcom and have been following the company for about four years now. I am writing to you and the institution/shareholders that you represent to inquire about your interest in joining the exploratory group I have recently formed to address shareholder value in the company. Let me give a background of the company and my motivation for starting this exploratory group.

I was interested in the company because it had tremendous growth in emerging markets such as China, had their manufacturing base in China, and yet was a US company (with US listing), which I believed provided better governance and regulations. Over the years, the growth in their Personal Handy Phone (PAS) was tremendous from basically zero users to almost 100 million users. This type of disruptive technology changed the landscape in China and allowed the masses to own/use a mobile phone. With this base technology and incredible revenue/resources, the hope was the company could develop other disruptive products, take advantage of their user base/clients in China, and transport the growth to other emerging markets.

The company, through its US listing, was able to raise almost half a billion dollars, and had revenues that topped over $2 billion in China alone. However, it was common knowledge that the company had to develop other products and diversify away from China and PAS. Back in 2004, the company had a quarterly shortfall that signaled the seriousness of the PAS decline and started a slide in the stock price that has shaved about 90% in the last three and a half years. During that time, the company has undertaken some restructuring but has not been able to right size the company. Because it had continued PAS revenue, it allowed the company time to develop new products and turn the company around. However, they have not been able to do it. While it is not uncommon for companies to take 6 months to 1 or even 2 years to develop new products and have it impact the bottom line, it is also not acceptable to risk the company’s financial condition to the extent that it is in.

More concerning however is the actions that management and the board of directors have taken over the last 2 years with respect to the following issues.

Management control – Hong Lu, one of the founders of the company had decided in 2006 to cede control to Ying Wu, the China CEO. However, in late 2006, it was announced that Wu would not take over as CEO and instead lead a strategic alternative study for the company. In late May of 2007, the strategic alternative study was concluded with no actions and instead led to the firing of Wu for differences in opinion regarding the direction of the company. In late June, Peter Blackmore was hired as COO and eventual successor to be CEO. At this time, Lu went to China to fill in for Wu. Up till now, there have been no updates on the CEO position in China and for the entire company.

Strategic Alternative Study – In late 2006, the company hired Merrill Lynch to perform a strategic alternative study. In May of 2007, the company concluded the study without any action except the firing of Ying Wu, the China CEO who is the main proponent of PAS and IPTV. The management’s only conclusion was that it was better to stay the course to realize the best shareholder value.

In the November shareholder meeting which I attended, we learned that there were offers for part of the company but nothing that the board considered worthwhile. The management/board mentioned they considered a wide range of options and even taking it private. However, none of the options were put to the shareholders for consideration. During the call, I asked what price range they were looking for to sell the company or what their objectives were. Obviously, you have to have an idea of what you are worth to make an adequate decision. Once again, there was no concrete response from management or the board. In the meantime the stock has gone down about 70% from the time the strategic alternative was announced. The only conclusion from the collapse in the share price is that this is another major management misstep. They have admitted that this caused management time and offered this as a reason for the company’s lack of focus.

Internal control/profitability - The company guided for $4 billion in revenues and $2 per share profits in 2005. In late 2005, the company significantly lowered expectations to getting back to profitability to early 2007. In a August 2007 call, management predicted cash flow and GAAP profitability in early 2008. Now, they are committed to profitability in early 2009 (maybe late 2008). The last profitable quarter was in early 2005 so even if the company hit their targets this time, it would be four years for this management to right size the business. Then, there are the options/China investigations that caused them to use 20000 man hours, risk bond default/Nasdaq delisting, and pay $22 million in additional bond interest.

Convertible bond – The company has used its PAS revenue over the last few years to pay down part of the debt and raise cash. However, there are a lot of questions of why the company chose to keep $400-500 million in China earning less than 2% and yet having to pay the interest on the convertible bond and another $22m in 2007 alone. The company has mentioned transfer restrictions from China but was able to transfer $150m in 2007 alone. It mentioned having to satisfy China laws of keeping a certain amount of funds for the business. It is difficult as a shareholder to imagine they have exhausted all options to transfer their own funds when it is most needed. After all of this, shareholders have yet to have final resolution when it is due in less than a month.

Management Compensation – Despite the continued losses and issued outlined above, the compensation committee of the board of directors has continued to pay bonuses. The CFO Fran Barton alone received huge bonuses for his role in filing the long delayed financials. Isn’t this the job he was paid to do. Does any reasonable person think they did this in a fast track or exceptional time frame that warranted an extra bonus? After the shareholder meeting, they announced new retention bonuses for management paying Barton alone $2 million per year just for staying with the company. There seems to be more PRs about compensation than progress.

Expenses – Despite continued losses for the past 3 years and the expectations of more losses, the company has only minimally cut expenses. The company’s expense ratios are about twice the industry average. For the last couple of years, they have justified their expense ratios and their compensation by including the Personal Communication Division (PCD), which include a significant resale component not standard in the industry.

Most of the investors that I have talked with share my belief that the company is significantly undervalued based on their assets alone. There is still hope that the company can turn it around and the fact they are making inroads in broadband/iptv in various countries is encouraging. However, there is a major concern regarding management and the board of directors, which could prevent any shareholder value being unlocked despite all of their current resources and potential.

Over the last few years, I have posted on the yahoo message boards to discuss the company’s prospects. More recently, I have started a blog on the company.

http://utstarcom-stocknews.blogspot.com/

Due to the all time low share price and continued management lack of performance in performing their duties to the shareholders, I have started an “exploratory group” to enhance shareholder value. There are two basic plans or phases to achieve this goal.

“Plan A”: Pro-actively “support” and monitor the management during this turnaround phase. This involves:
· Organizing and maintaining retail/institutional shareholder base to discuss the progress of the company.
· Communicating as a group with management through emails.· Meeting with management (as needed) to discuss various issues such as compensation, operating expenses, profitability and other strategic initiatives.
· Using the resources of the group to disseminate information to the group’s members and other (existing/potential) shareholders. (via blog/email base, letter campaign to other news organizations such as Businessweek, Lightreading, gathering of information in China/other parts of the world)
· Reinforce sense of urgency to management/BOD by being prepared to implement “Plan B” quickly.

“Plan B”: Seek change in management and/or a sale of the company. This involves:· Meeting with management/BOD to discuss sale of company.
· Letter campaign to other institutional shareholders to join this group (activist group at this point)
· Proposing management changes and putting up slate of directors that will make significant operational changes or seek a sale of the company.
· Court potential suitors for the company.

So far, I have only solicited support for the group from the message board/blog. Even with this limited effort, we have already had inquiries from shareholders representing over 22 million shares or 18.5% of the total shareholder base. We recently held our first shareholder meeting/conference call. You can access the conference call recording from this link:
http://www.sharebigfile.com/en/file/6535/UT-CC-2-2-08-wav.html

Last Wednesday (February 6, 2008), I sent out the group’s first letter to management seeking a shareholder meeting after the upcoming Q4 earnings call. On Thursday, Peter Blackmore, UTStarcom’s President and COO, sent an email reply and agreed to meet with the group (email chain available in the blog).

At this time, the exploratory group is operating under “Plan A” and just gathering inquiries and support from shareholders. I am asking for your group’s support in helping us enhance the share value of this company. If interested, please send me an email reply and we can further discuss this matter.

2 comments:

sanxia said...

Tim,

That's a well written letter. I appreciate your effort.

A small shrimp :)

Anonymous said...

my deepest respect for your efforts. you can also count on my remaining shares (just about 20000). these incompetent, fraudulent, cheating & self-servicing management crooks (lu, barton, toy amongst others) cost me so much during the past years. you forgot to add the one and only real question in your letter to the board of directors: "when will the first of you end up in jail...down on his knees...searching for the soap...!" - because that`s the time, when honest but stupid shareholders can have a glass of champagne.

kind regards

gunter

sunny-side@gmx.at