Sunday, April 26, 2009

Shareholder hopes & dreams - Sad realities

Why did I and other longs invest in this company and some have continued to hold on to shares? I was banking on the growth in China. UTStarcom was one of the few growing telecommunications provider 5-6 years ago and their rapid growth, US listing, and potential for becoming the Chinese version of Cisco was very tempting at the time. The monumental collapse can be attributed to some major strategic mistakes such as investing in WCDMA instead of the home grown TDSCDMA, spending massively on R&D/marketting in overseas markets that had well-placed local providers and/or had regulations that would prevent adoption of the technology at the time. The company's main revenue/profit source in China and Japan (Softbank) also deteriorated significantly in the last 4 years while all the other ventures/revenue source could not come close to addressing the PAS/Japan losses despite the company's efforts to reduced overall spending.

The "growth" that investors hope to see can actually be seen in Huawei and ZTE!

Peter Blackmore, who came in 20 months ago mentioned being impressed by the combination of Western management/US listing/markets as well as the low cost base of operations in China. The problem is that UTStarcom is competing against ZTE/Huawei in China where UT is disadvantaged (previously by not being a true Chinese company and now also by scale due to years of losses). Outside of China, it is competing against well-entrenched global providers with huge scale and credibility of having revenues 20-100x UT has.

I listened to the Analyst Day meeting held in June 2008 and was reinforced again that it is not the technology that is the issue but management/other external factors that may prevent UT from ever becoming profitable and eventually sold/go down. Brian Caskey mentioned some of these technologies have been developed since 2000-2001. Peter Blackmore mentioned that they had too many technology and had a cost problem.

While Peter can articulate the problems and fix certain operational issues in the company, he has to deal with a company headed by now Chairman Hong Lu and lead independent director Thomas Toy, both with UT performance history that would have them removed already. They are not even well liked as Ying Wu was by the employees/customers. Being non-Chinese, Peter is also disadvantaged when the company's base of operation and main market is China! So, the current leadership situation at UT is tremendously bad for shareholders.

Peter understands that high gross margins and profits are the key to turning the valuation of the company around. He has focused the company on broadband, iptv, and ngn. Lets discuss whether the company's products/deployments are commoditized or not. The company focuses on all IP type products, which in turns brings customer protection on their investments. That is good for the customers BUT not good for shareholders/UT. There are "few" true non-commoditized platforms/products that will do well for a long period of time such as Apple's iphone or Mircrosoft's operating software. The one high margin product/business that UT has is IPTV. When UT wins a contract for a certain region, it has a hold for that period. The company makes the correct argument that bundling ngn/broadband can reap added savings and make the systems work more efficiently and thus a better value proposition. However, there are other major factors such as vendor financing or worse State-backed financing that UT cannot compete. It cannot compete on scale and therefore we see the results of no large wins in any of their technology segments that they offer. Even the key strategic wins have not taken off.

While the initial mis-steps by the company is understandable to an extent (dellusions of grandeur after hitting $2.5b in revenues in a short time gives the company some slack), not cutting costs more rapidly and the overseas expansion was not acceptable (the last 3-4 years). As far back as 2003, PAS was expected to peak in 2004. Failed ventures from WCDMA, Softbank, India, PCD, and other expansions are examples of the mis-steps. The company has not even settled their "identity" as of now.

Blackmore mentioned early in his tenure that UT was like a start up company. I commented that the company's huge cost base, lack of growth, internal issues made this statement false. The company had $40-50m in R&D that normal startups do not have. They still had $26m in the last quarter. The company has a LOT of resources to turn this around but unless they make fundmental changes in the leadership and their identity as a Chinese company, the street doesn't buy it (hence the weak rise in the stock price even during the latest rally). As an example of a "startup" doing all the right things is Starent. However, just like in Sigma Designs case, the larger competitors look at the growth/margins that they have and come swarming in. Eventually, Starent will go bust or be bought out.

Going back to their current strategies. There is the "wireless" backdoor plays such as FMC, PDSN, IPTV, handsets and their broadband/ngn technologies such as GEPON/transport network products. The problem again is that individually, it may not be a commoditized product and have certain differentiations but by the time there is any large scale implementation, it IS commoditized.

Because of the lost in scale and diminished resources, the company has a much higher hill to climb than even when Peter came on board. Yes, another growth wave can lift all boats and UT will benefit. The lower cost base will take some of the pressure off. The question for the board/shareholders is the missed opportunities of getting a much higher valuation just a couple of years ago. (

I realize the above items have been mentioned many times but it does reinforce the issues preventing the higher valuation of the company and that shareholders should continue to hold management/board to performance and structural change. Peter must produce results/changes and get to the core of the problems. If he can't, I have mentioned to him and the board to sell the company. I wonder if the company will have a 2009 Analyst Day meeting ?

BTW, Ford Motor has gone from $1 to $5 because it now increased sales estimates by 10k for the quarter and may be profitable in 2011. The street has no confidence in UT and whether or not UT management/board does something/anything will be telling.

Have a good rest of the weekend.