May 3, 1999 RECOMMENDATION: BUY
FutureLink Distribution Corp. (OTC: FLNK)
Market Data:
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FutureLink Corporate Information:
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Summary Investment Considerations
FutureLink Distribution Corp. ("FLNK") is building a leader in the emerging new industry called Application Service Provision (ASP): the provision of software applications to users on a rental basis, either over the Internet or through traditional networking means. In addition to its ASP services, FLNK provides comprehensive IT management services and strategic consulting, and currently has over 120 employees in three offices (Calgary, Tampa and Houston), serving over 100 clients and managing over 4,000 desktops. Independent market research firms estimate that the market for application software rentals will grow from practically nothing a couple months ago to several billion dollars in two to three years.
We believe that FLNK is one of few ASPs that is currently generating revenues through the rental of branded software applications. FLNK has chosen an operating platform developed by Citrix Systems, has partnered with leading enterprise software producers, has launched its first server farm, and is currently signing up customers for its ASP services. This emerging industry is getting an increasingly high level of attention in the media and the financial markets, with the recent IPO of USInternetworking (NASDAQ: USIX) and the pre-IPO filing of Interliant, two pure-play comparable companies. We believe the market growth for ASP services is going to be explosive, and that FLNK is extremely well positioned to capitalize on this trend. We recommend purchase of FLNK common stock by investors tolerant of the risks associated with micro-cap and small-cap equity, and OTC, investments.
I. ASP, Applications Service Provision -- The Next Wave in Computing
- Renting software applications through ASPs, and leveraging the net-centric computing technology, is the next wave in computing; the independent market research firm Forrester estimates that the "software rental" business will exceed $20 billion in two years.
- FLNK currently offers two levels of ASP services, and has been recognized by independent market research firms such as IDC and Yankee Group as a founding, and leading, firm in this emerging ASP industry.
- FLNK has an established IT management services and strategic consulting business, which we believe is a critical competitive advantage to the successful delivery of integrated ASP services.
II. Strong Corporate Partners and Content Partners
- FLNK has chosen Citrix Systems, Compaq and UUNet has its enabling operating system, hardware and Internet service providers, respectively; Citrix is the leader in the thin client/service computing software industry.
- FLNK has agreements with leading enterprise software providers - Onyx, Great Plains, Applix and Galleon Distributed Technologies -- to offer their software on an outsourced basis;
III. Compelling Valuation -- Look at Comparable Company Valuations
- FLNK, which is currently generating ASP revenues, with world-class partners and content providers, currently has a market capitalization of approximately $80 million (based on 100 million shares out). USIX, a comparable ASP company, went public less than a month ago and is trading at a market cap of almost $2.0 billion.
- We believe FLNK shares are significantly undervalued, and provide a way for investors to participate in this emerging ASP sector at venture capital valuations, through a public market vehicle; we recommend purchase of FLNK for investors tolerant of the risks associated with micro-cap investments.
- * Following the recently announced financing and restructuring of outstanding convertible debentures, we believe the current number of shares outstanding (including share equivalents) is approximately 100 million. We have based our valuation analysis on 100 million shares out (see financial model).
Company Background & Overview
FutureLink Distribution Corp. ("FLNK") is at the forefront of two emerging segments of the Information Technology (IT) services industry: Applications Service Provision ("ASP"), and Server-based Computing and Outsourcing. Since its founding in 1996, FLNK has been engaged in the research and development of application software hosting, and server-based (or thin-client) computing solutions. FLNK offers a set of services, it calls "Computer Utility Services," which allow users to compute in a simple, cost effective manner. FLNK is changing the computing paradigm, from one of "ownership" to rental or outsourcing, and is positioned as The Computer Utility Company. FLNK is offering three ASP services, discussed in detail below, in addition to traditional IT management and consulting services, and currently has over 120 employees in three offices (Calgary, Tampa and Houston), serving over 100 clients and managing over 4,000 desktops.
The traditional model of network computing consists of computers, each with its own hard drive, and an installed copy of the operating system and multiple software applications. FLNK offers the ability to move to "net-centric," or server-based, computing, whereby all of a client's files and applications are stored at FLNK's server farm and accessed remotely via traditional networking connections or the Internet. By hosting applications and storing data on FLNK's servers, and providing access to these applications or the client's data via the Internet or traditional networking means, FLNK is able to provide comprehensive computing services in a cost effective manner.
FLNK was incorporated as a private company in Alberta, Canada, on March 28, 1996, and began trading OTC in the US on February 4, 1998. On August 21, 1998, FLNK acquired SysGold Ltd., a privately-held IT outsourcing company that was generating approximately $6.5 million in annualized revenues from 90 clients in the energy, legal, advertising and construction businesses. In addition to the established client and revenue base, the SysGold acquisition provided additional technical, financial and marketing personnel.
Application Service Provision (ASP) -- Rent, don't
buy, Software
Application Service Provision (ASP) is the next wave in computing: the provision of software applications to users on a rental basis, such as price per month, price per desktop, etc. ASPs host the software applications on centralized servers, called server farms. By hosting, ASPs keep the file, print, database and application software on high performance, multi-user enabled servers housed at the server farm. Users can then use thin-client software to connect to the server farm and run the hosted applications. Customer data and information can be stored locally, or hosted at the ASPs server farm, with the highest levels of availability, performance, and security.
Market Drivers: Forrester Research estimates that the total market for application software rentals will grow to $21.1 billion in two years. There are a number of developments that have, and will continue, to drive the ASP market.
- Growth in Server-based Computing, Networking and the Internet -- in the last five years there has been explosive growth in server-based computing, the deployment of networks and use of the Internet. Networking, and the Internet, has developed the concept of shared applications and information across desktops, among clients, and across servers. Connectivity of networks to the Internet has created a common infrastructure, and one where information can be shared very cost-effectively.
- Standardization of Software -- business applications and productivity software is becoming increasingly standardized, rather than customized by business or desktop. This standardization facilitates the rental model.
- Enterprise Software Providers Going Down Market -- the enterprise software producers (such as Oracle, SAP, PeopleSoft and Siebel) that develop packaged business applications for large companies, need to find ways to increase their market penetration of small and medium-sized businesses. Provision of their applications through ASPs is being implemented or considered by almost all of these vendors
- IT Outsourcing / Scarcity of Talent -- businesses are finding it increasingly difficult and expensive to manage IT departments and equipment internally, and the industry of IT outsourcing is poised to grow dramatically. Equipment is expensive, and IT talent is in short supply, making recruiting and retention very costly. According to EDS, the market for IT outsourcing in the United States alone is expected to generate $70 billion by 2000.
- Growth in E-Commerce -- e-commerce is growing dramatically, and many companies consider it to be a critical part of their business strategy. Ordering, billing, and payment transaction information is increasingly transmitted over the Internet. There are many forecasts for growth in Internet and e-commerce revenue growth, all of which are staggering. Generally, e-commerce revenues were estimated to be approximately $10 billion in 1998, with most forecasts exceeding $175 billion by 2001.
- Thin Client Capability -- FLNK will be able to deliver its services in a "thin client" environment. A thin-client desktop consists of a monitor, CPU, mouse, and keyboard that is connected to a network. Thin clients have no hard drive, CD-ROM, or other moving parts, which greatly reduces maintenance and operating costs to companies; this eliminates the need for constant computer upgrades, reduces the initial capital investment of buying PCs and reduces the time and money spent on computer maintenance.
- Tele-commuting - companies are using the Internet more and more to communicate with employees who are dispersed geographically. Forrester Research estimates that there are presently 30 to 40 million telecommuters and home-based workers in the United States, and the numbers are growing annually.
We believe these trends are becoming more, not less, significant in the market, and their impact will drive demand for the ASP industry.
Advantages of ASP For Business Customers: Using an ASP enables companies to lower the total cost of technology ownership dramatically. This is achieved through the elimination of the costs of hardware and software purchases, inconsistent and/or incompatible software versions, costly and timely upgrades, and in-house IT personnel and departments. Businesses will not have to incur the costs of software purchases, or worry about obsolescence of hardware or software. FLNK estimates that businesses will be able to achieve savings of between 30% and 40% per computing desktop, consistent with many independent market research firm estimates.
FLNK and the Gartner Group estimates that it costs businesses between $9,000 and $12,000 per year to manage a PC that is on a WindowsNT network. FLNK, through a series of ASP service offerings and complete IT outsourcing, offers businesses the ability to have their computer networks managed remotely, utilizing FLNK's economies of scale, for a fixed cost "price per month per desktop," or "price per year per desktop."
Advantages of ASP For Software Companies: There are some important incentives for software companies to be involved in "software rental" as well. It will be much simpler to introduce new applications or features to an existing network, as opposed to shrink-wrapping millions of packages, having nationwide demonstrations, and sending products through a distribution channel. Software companies can use FLNK to offer, for example, a new feature for free for a month, and then get detailed feedback on what features are used most and least, what doesn't work well, etc. Software companies will also know beyond doubt that all users have a software license. There are estimates that up to 50 percent of all software in use today is pirated; over FLNK's network, everyone using a program will be licensed.
Microsoft, for example, has recognized this trend and has already made plans to offer all of its software for rent (with the exception of desktop, "bootable" operating systems software such as Windows 98 and NT Workstation) beginning early in 1999. Initially, the company will offer rental licenses for its server products such as Windows NT Server, Exchange, and then move on to application products such as Office, Project, etc. Other leading mass-market software producers such as Corel and Lotus have announced plans, or currently offer, concurrent licenses to their software.
FutureLink's Target Market
We believe that FLNK is uniquely positioned to take advantage of the opportunities presented by this emerging industry. Despite many companies discussing plans to offer ASP services, we believe that FLNK is the only company that can offer the service today, and is generating revenues as an ASP today.
FLNK is focusing on small and medium-sized business (50-1000 desktops), including companies that have traditionally used the thin-client computing model, such as the banking and oil and gas industries. IDC estimates that there are approximately 22 million desktop computers in the US in FLNK's target market of 50 to 1000 desktops. FLNK estimates that the Canadian market adds an additional 10 percent, to reach a target 25 million desktops in North America. At $200 per desktop per month, this market could represent over $60 billion annually. Additionally, the traditional outsourcing companies focus almost exclusively on companies with 1000 or more desktops and annual revenues in excess of $1 billion, thus largely ignoring this market.
FutureLink's Service Offerings -- ASP & Traditional
IT Management and Consulting
FLNK offers, or is planning to offer, three categories of ASP services, as well as comprehensive IT Management and Consulting Services. We believe that a key competitive advantage for an ASP will be the ability to provide comprehensive IT support services to their ASP clients. A description of services is below:
ASP-1, Application Portal: ASP-1 is not commercially available currently, although the technology and systems are basically in place for the provision of the service, and are currently being used by FLNK and selected customers on a trial basis. ASP-1 is being designed as a consumer service. ASP-1 customers will be able to access branded consumer applications, small business applications such as Microsoft Office (Word, Excel and PowerPoint) and specialty applications (e.g. gaming), via the Internet, hosted on FLNK's servers on a monthly subscriber, or per-use fee basis.
ASP-2, Application Hosting -- ASP-2 is the hosting of branded, enterprise software applications, such as accounting software (Great Plains) and contact management (Onyx), and provision of those applications on a "price per desktop" basis. It is anticipated that although the customer will outsource some or all of its applications, there will still need in-house server capabilities and support. This service is targeted at small businesses that have some IT ability but are looking for a cost-effective way to access more powerful enterprise applications. ASP-2 services will be marketed directly, and through the marketing channels of the software partners (such as Great Plains' Value Added Reseller channel, and Onyx' internal sales force).
ASP-3, Hosted Outsourcing -- ASP-3 is the complete outsourcing of the IT department to FLNK. All applications and data management is handled off-site, at FLNK server farms, from which it is also supported. We believe that most small- to mid-sized business clients will start as ASP-2 users, outsourcing only certain applications as they develop a working relationship with FLNK. As clients get comfortable with the level of service, support capabilities, and issues such as data security, we foresee a significant percentage of ASP-2 customers transitioning to ASP-3 customers. ASP-3 customers are distinguished from ASP-2 customers by being managed entirely off-site by the FLNK server-farm and support personnel (all data and applications managed off-site).
In addition to the three levels of ASP services, FLNK provides comprehensive IT management services and strategic consulting through two additional business units. We believe there are significant synergies between the ASP and traditional IT management services, and that the experience and technical capabilities of the IT management and consulting business will be critical to the successful provision of ASP services.
IT Management Services -- FLNK's IT Management services consists of the provision of computing infrastructure, and support and maintenance services. The service is provided on a project basis, on a partial out-sourcing basis, or a full outsourcing of the IT department (nb: this differs from ASP-3 in that the computing equipment and servers are left on the customer site, with FLNK providing on-site support). The hardware and software supported includes PCs running Windows 95/98/NT, Unix Workstations, and servers running NT, Novell, Unix or OS/400, database servers running Oracle or SQL, and many specialized industry applications. Networking expertise includes Ethernet, Fast Ethernet, Token Ring, ATM and Frame Relay.
As part of IT Management Services, FLNK offers procurement services to customers, including the ability to custom configure most computer equipment. FLNK generates modest gross margins of roughly 6% on hardware and software sales.
Business Practices (BP) Consulting -- FLNK provides management consulting services to assist clients in the development of strategic plans, managing business practices and computer applications for specific business disciplines. These services are tailored to clients' specific needs, resources and knowledge base. BP Consultants work with the client's existing IT staff to optimize business process and to maximize the effectiveness of their in-house computer systems. Again, we believe the established BP consulting practice will complement the ASP service offerings.
Corporate Partners & Content Partners
To assist the development of its ASP platform, FLNK has developed relationships with Citrix Systems, Compaq Computer and UUNet WorldCom. These partners are leading infrastructure players in their respective fields. We believe that these relationships differentiate FLNK from the plans of other ASPs, particularly with respect to the use of Citrix's ICA and Multi-Win software platforms (discussed below).
Citrix Systems -- FLNK's ASP services are enabled through the use of Citrix Systems ("CTXS") leading thin-client/service computing software, called WinFrame and MetaFrame. These software programs separate an application's presentation logic (the user interface that the customer sees) from the business logic (the software rules) which reside on FLNK's server farm. As such, the Windows application interfaces can be "thinly" displayed on the customer's devices, while the application software can reside on the centralized server farm. CTXS is widely regarded as the world leader in providing this type of software that enables thin-client applications. We believe that FLNK's choice of CTXS's WinFrame and MetaFrame as its enabling software platform, its'close relationship with CTXS, and its experience with CTXS's enabling software is a significant competitive advantage.
Compaq Computer and UUNet: FLNK has developed relationships with Compaq and UUNet in the areas of hardware and Internet Service Provision (ISPs). Compaq is a leading developer of Intel-based servers and UUNet is one of the world's largest ISPs. The FLNK server farm launched in Calgary last month was built with Compaq hardware. As part of its ongoing relationships with its Corporate Partners, FLNK hopes to develop cooperative programs in the areas of sales lead generation and co-marketing.
We believe another key success factor for ASPs will be developing relationship with leading software producers, both in the areas of enterprise software and mass-market business applications. In this area, we believe FLNK has made considerable progress in comparison it is competitors, and that FLNK is actively seeking additional software partners to broaden its content offerings. Current software partners include:
Onyx Software Corp. -- Onyx Software ("ONXS") is a leading provider of Enterprise Relationship Management (ERM) software solutions. ONXS software is rapidly deployable, scalable, flexible and reliable, resulting in a low total cost of ownership and a rapid return on investment. The integrated ONXS product family allows companies to automate the customer lifecycle across an entire enterprise, instead of automating only individual departments. Onyx Software customers include American Express, Bombardier, & Brooklyn Union Gas. ONXS is actively seeking to introduce its software offerings to the small- to mid-sized business market, and the relationship with FLNK as an ASP is a natural fit. FLNK is the only ASP with which ONXS has an outsourcing relationship.
Great Plains - Great Plains ("GPSI") is a leading provider of Microsoft Windows NT and SQL Server-based enterprise-wide solutions. GPSI's award-winning products and services automate essential business functions and enhance the strategic value of financial and operational information. GPSI's products and services are sold and implemented by its extensive network of independent Partner organizations throughout the world. Great Plains was named one of Business Week's "100 Hot Growth Companies" in June 1998 and one of Forbes Magazine's "200 Best Small Companies" in November 1998. FLNK and IBM are the only two companies with which GPSI has an outsourcing relationship.
Applix, Inc. -- Applix ("APLX") creates applications and tools to facilitate real-time decision support in sales. The company provides thin-client business solutions for managing customer interaction, real-time decision support and office productivity across globally networked enterprise environments. As is the case with ONXS, FLNK is the only ASP with which APLX has an ASP relationship.
Galleon Distributed Technologies Inc. -- Galleon's next generation, Java-based application server supports a suite of thin-client E-business applications. Galleon E-Business solutions allow companies to automate every aspect of customer interaction, whether on the phone or through the Internet. Galleon ties together multiple order sources including web E-Commerce, call centers, inventory, and legacy systems and operates seamlessly through the flexibility of Java and the 3-tier, thin client model. Galleon software lowers the cost and improves the efficiency of both direct-to-consumer and business-to-business transactions. Some of Galleon's clients include Microsoft OEM Sales, ESPNet SportZone, and thestreet.com. Again, FLNK is Galleon's only ASP relationship currently.
We believe FLNK is well-positioned currently with respect to Enterprise Software partners. Through these partners, FLNK can offer customers accounting and financial management solutions (Great Plains), enterprise relationship management programs (Onyx), database analysis tools (Applix), and the ability to integrate their back-end functions and customer services via an e-commerce solution (Galleon). While we don't believe there are any other ASPs currently generating revenues through ASP offerings, we also do not know of any ASPs that have established relationships with software content providers that allow the breadth of service offerings that FLNK can provide today.
Partnerships with leading software providers also provide sales and marketing leverage. For example, Onyx and Great Plains sell FLNK's service through their own reseller network, greatly enhancing the marketing and sales reach for FLNK's service offerings. FLNK has also publicly announced that they are in discussions with other leading software manufacturers to offer business applications software on a concurrent-licensing basis.
Competitive Landscape
The ASP market is new, fragmented, with few public "pure play" comparable companies. We view the competition as being grouped in two categories: pure play ASPs, and other companies including software companies, traditional IT outsourcing companies, telephone companies and others that have expressed plans to participate in this market. At a recent IDC conference, FLNK was highlighted as a leader in the ASP market today, and one of few ASPs company generating revenues from the delivery of ASP services.
Pure Play ASPs
USInternetworking ("USIX") is a public company that has USWest as a corporate partner, investor and marketing partner. Despite having little or no direct ASP revenues to date, USIX has established a very high profile. The pre-IPO valuation put on the company by its underwriters (which included CS First Boston and Bear Stearns) was approximately $400 million. USIX went public on April 9th, and now has a market cap in excess of $1.8 billion.
Corio is a privately-held ASP backed by venture funds managed by Kleiner, Perkins. Based in Santa Clara, California, Corio has selected Marimba Inc.'s Castanet as the enabling software layer (as opposed to FLNK's selection of Citrix), and has announced an agreement to offer human resources enterprise software from PeopleSoft. We believe that Corio's selection of Marimba (also backed by Kleiner, Perkins) may limit the number of Windows-based applications and other enterprise software packages that Corio can offer, at least in the near term.
Telecomputing ASA is a private Norway-based company that is planning in partnership with MCI WorldCom to offer Windows-based ASP services in the US. The MCI WorldCom subsidiary will host the data center and provide networking services, and is planning to open an office in Fort Lauderdale, Florida. The company has stated that it intends to begin offering services in mid-1999. Telecomputing, like FLNK, is using a Citrix platform.
Interliant ("INIT") is a Houston-based company that is offering web-based access to the Lotus Notes and Domino platform. On March 17, 1999, Sage Networks, Inc. announced it was acquiring INIT, and had filed a Form S-1 to go public, with the plans to raise $75 million. Although details pertaining to shares outstanding was not immediately available in the initial filing, we expect that the pre-money valuation to be similar to that of USIX. INIT offers web hosting and messaging service, and remote access to business-critical applications. Interliant has recently started AppsOnline, an ASP portal service that is aimed at small- to mid-sized businesses. Like Corio, we believe Interliant's selection of Lotus Notes/Domino as a platform may limit possible software offerings in the near term.
Other Companies Planning ASP Offerings
The second category of companies currently planning ASP offerings include software companies, larger technology companies, and traditional IT outsourcing companies. Although there are many different firms have issued press releases discussing ASP plans, we are not aware of any companies actually offering the services today. Companies in this category would include IBM, EDS, Oracle and many of the independent telephone companies and ISPs (Internet service providers).
Generally, we anticipate that these larger companies will be targeting large companies for their services, specifically companies with over 1,000 seats or desktops, and annual revenues of over $1 billion. As such, they probably won't be competing for the same small to mid-sized clients that FLNK is targeting. Also, we believe strongly that a key competitive advantage for any ASP will be the ability to provide comprehensive IT support services to their ASP clients. FLNK, unlike many potential large and small competitors, has experience through its establish IT Management Services and Business Practices Consulting business to provide the comprehensive support necessary for a successful ASP business.
Management & Key Directors
Cameron Chell is Chairman, President, CEO and founder of FutureLink Distribution Corp. Mr. Chell's business experience has been the development and financing of high-tech corporations. As founder, his primary focus has been to assemble a leading edge technology and business team as well as acting as FLNK's primary financier. Previously, Mr. Chell worked as lead broker for several corporations during the companies' initial financing and startup period. Before launching FutureLink, Mr. Chell co-founded JAWS Technologies Inc., a provider of encryption software, where he served as vice president of technology and now maintains a seat on the board. Previous to this, Mr. Chell has been a principal in several businesses, and in 1992, Mr. Chell placed fourth in the Canadian Olympic Trials for the decathlon.
Don Bialik, Vice Chairman, is the founder and previous owner of SysGold Ltd., a private IT outsourcing company, before the August 1998 merger with FutureLink. During SysGold's six years lifespan as an independent company, he grew the company to 80 staff, over 100 clients, and a dominant position in the Calgary market providing information technology services to small and medium-sized companies. Prior to founding SysGold, Mr. Bialik was a Manager of Information Systems, Human Resources and Administration at an energy company.
Raghu Kilambi is Vice President -- Finance, Chief Financial Officer and a Director. Mr. Kilambi has more than 10 years of broad business experience in investment banking, corporate finance, corporate restructuring and public accounting. As an investment banker to public and private technology companies, Mr. Kilambi has raised equity capital for both US and Canadian companies in the IT, communications and telecom industries. Previously, Mr. Kilambi was the Director, Financial Services and Taxation for a $400 million subsidiary of a US multi-national food company. Mr. Kilambi commenced his career with Touche Ross & Co. (now Deloitte & Touche) and is a Chartered Accountant.
Bill Arnett is the Chief Operating Officer of FutureLink. Mr. Arnett has more than 20 years of information systems experience at manufacturing and energy companies in Canada and the United Kingdom. His expertise includes: Information Technology Planning, creation of System Development Methodologies for the Oil & Gas industry, development of accounting systems for manufacturing companies, and the development of Accounting and Land applications for Oil & Gas companies.
Doug Evans is Vice President of Business Practices. He is a Certified Management Consultant with over 15 years of management consulting experience and over 25 years of Information Technology related industry experience. Mr. Evans' background includes business process re-engineering, strategic planning, technology architecture assessment, project and implementation management, Y2k assessments, marketing, marketing management, surveys, feasibility studies, compensation, executive recruitment, and counsel on management structures, policies, procedures & practices relating to Information Technology.
Ora Zabloski, Vice President of Human Resources, joined FLNK in November 1998. Previously, Ms. Zabloski was Vice President of Nova Gas Transmission, responsible for Human Resources, Environment, Communications, Government and Community Relations. Ms. Zabloski has more than 20 years of experience in strategic Corporate Services and Human Resource Management.
Kyle Scott, General Council and Corporate Secretary, recently joined FLNK from Howard Make, a Calgary-based corporate and securities law firm. In addition to his legal background, Mr. Scott has served as a listing analyst with the Alberta Stock Exchange, and has experience in the venture capital industry.
Phil Ladouceur has been a director of FLNK since August 1998. Mr. Ladouceur is Chairman of the Board of MetroNet Communications, which recently announced it had agreed to be acquired by AT&T. Prior to joining MetroNet, Mr. Ladouceur was Executive Vice President, Operations at Bell Canada International Inc., and was the founding President and CEO of ISM Information Systems Management (Alberta) Ltd., a computer and network management outsourcing company.
Robert H. Kohn has been a director of FLNK since February 1998. Mr. Kohn is the co-founder and Chairman of eMusic.com (formerly Good Noise Corp.), the first Internet record company that is focused on signing talent and distributing music via the Internet. Previously, Mr. Kohn was Vice President, Business Development and General Counsel of Pretty Good Privacy, Inc., a developer and marketer of Internet encryption and security software. Earlier, Mr. Kohn held various senior management positions for Ashton-Tate, Candel Corporation and Borland International.
Financial Information and Valuation Discussion
With the guidance of management, and based upon independent analysis of the ASP opportunity, we have generated a comprehensive earnings model for FLNK.
ASP Business:With respect to ASP business, we have provided projections for the Application Hosting business (ASP-2) and the Hosted Outsourcing business (ASP-3). These are the two commercially available ASP service offerings today. Although FLNK has the capability to offer Applications Portal (ASP-1) services today, we believe it will be at least 12 months before FLNK launches that service to the broader market, and it is much more difficult to forecast (revenues, margins, etc.) today than the ASP-2 and ASP-3 business. Therefore, we believe there is upside in the FLNK business plan with respect to the ASP-1 offerings, and we intend to update our model in the future when that business model is better developed.
With respect to ASP-2 and ASP-3 businesses, we have used "desktops under management" and "revenue per desktop" as the revenue drivers. We have initially used a figure of $450 per desktop, which is comprised as $150 for access to the base ASP service and support, approximately $150 per month for use of one Enterprise Software application (such as Onyx or Great Plains), and $150 per month for integration work. We have decreased the price of this "desktop" by 5% annually. While we believe that the price per desktop will be higher, on average, as desktops add additional Enterprise Software packages and/or office automation packages, we have used the conservative assumption of only one Enterprise Software package per desktop going forward. We believe this is justified, as we anticipated downward pricing pressure over time as competitors enter the field. With respect to margins, management believes it can achieve 50% gross margins, which we have decreased slightly on an annual basis based on increased competition, despite our belief that there will be considerable economies on both the equipment (server farm) and support services over time (depreciation of the server farm equipment is a large cost, which is below the gross margin line).
Traditional IT Services & Consulting: For 1999, we expect this part of FLNK's business to generate a higher level of revenues than the ASP business. FLNK has an established IT services and consulting business (through the acquisition of SysGold), and we expect this to grow significantly over the next five years. We believe we have been sufficiently conservative with our margin assumptions as well. Again, we believe this business, particularly with respect to system integration and support, is critical to the success of the ASP business, and a key competitive differentiator for FLNK.
Valuation: We have provided a variety of different valuation methodologies, including discounted cash flow, terminal P/E multiples, and terminal operating income multiples. Regardless of the valuation methodology, FLNK's share price appears to be significantly undervalued at its current level. We believe current fair value to be in excess of $3.00 per share, or roughly 4 times its current level (based on an estimated fully-diluted share base of 100 million shares outstanding). However, there are negative technical considerations to be considered, not the least of which is the fact that FLNK trades OTC in the US with a stock price below $1, it is relatively illiquid, and its shareholder base is predominately retail. We believe the management is taking steps to address these issues, including getting board approval to affect a reverse stock split.
Comparable Company Valuations: As mentioned earlier, USIX went public approximately one month ago. Despite a pre-IPO valuation of approximately $400 million, USIX currently has a market capitalization in excess of $1.8 billion. INIT has filed to go public and raise approximately $75 million, at a valuation we believe to be comparable to USIX's pre-IPO valuation. With a market cap of $1.8 billion, USIX trades at 25 times the valuation level of FLNK. We believe FLNK is trading at an excess discount despite the negative technical factors of being an OTC stock, trading under $1.00, etc. Based upon our earnings model, and approaching corporate milestones, we believe an appropriate 6- to 12-month price target of $3 is achievable.
Comment on Recent Financing: FLNK announced last week that it had raised approximately $4 million in new financing, and had restructured some outstanding convertible debentures to put in a "floor" conversion price. Despite the dilutive nature of this financing, we believe it puts the Company in a much stronger position financially, exposed them to the US capital markets which should enhance future financing flexibility, and should provide the resources to accelerate the roll-out of their ASP services. We have been conservative in our financial model with respect to the number of shares outstanding, and have based our valuation models on 100 million shares outstanding. Given the large number of shares outstanding and the low share price, we believe FLNK management will exercise the recently approved option to due a reverse stock split.
Earnings Model and Valuation Analyses: See Below
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Summary Balance Sheet ($) |
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| Cash & equivalents A/R Total assets Convertible debt Shareholders' equity |
12/31/98A $6,651 1,458,314 $10,645,811 2,153,457 2,837,401 |
Risk Considerations
This section of the document is provided to remind potential investors to undertake a prudent level of due diligence prior to making an investment in the securities of FutureLink Distribution Corp. Inc. For a complete description of risks and uncertainties to FLNK's business, see the "Risk Factors" section in FLNK's SEC filings, which can be accessed directly from the SEC Edgar filings at www.SEC.gov on the Internet. Other potential risks include:
- Market risk: Investors should consider technical risks common to many small-cap or micro-cap stock investments, and OTC equities, including liquidity levels, small float, risk of dilution, dependence upon key personnel, dependence upon single products or technologies, and the strength of competitors that may be larger, better capitalized and hold dominant market positions.
- Business risk: FLNK has limited experience in emerging business of applications service provision and thin-client computing. Many of its products and services are in the early stage of commercialization. There can be no assurance that FLNK's business or the markets in which it competes will materialize or achieve the desired levels of revenues or profitability as expected.
- Competitive risk: The emerging ASP industry is expected to be characterize by intense competition, and many perceive the barriers to entry to be low. Added competition could lead to price competition and lower margins.
For Additional Information
Contact SmallCaps Online LLC -- 212-554-4158
Sources for Additional Information
The following are website addresses offering related information, and links to other sources of information.
www.FutureLink.net FutureLink's corporate website
www.SmallCapsOnline.com SmallCaps Online's site for company information and research
www.SEC.gov U.S. Securities and Exchange Commission, with links to EDGAR filings
www.aspnews.com ASP Industry newsletter
www.greatplains.com Great Plains Software
www.onyxcorp.com Onyx Software Corporation
www.applix.com Applix, Inc.
www.galleoninc.com Galleon Distributed Technologies, Inc.
www.citrix.com Citrix, Inc.
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