Mitel On a Roll

Mitel new 2014 corporate logo

Mitel new 2014 corporate logo

Mitel’s new logo reflecting a role as a communications software developer, versus a telephone system manufacturer

As both of my regular readers know, once upon a time I worked as a stock analyst. While I no longer pick individual stocks, I still read the financial news religiously. Our very own Mitel Networks (MITL) has been prominent in the news, and not just for being one of the best VoIP telephone system manufacturers available to businesses throughout greater Los Angeles. It appears that abandoned bids for competitors aside, (which we commented on as well), Mitel is also doing pretty well financially of late.

Seeking Alpha’s Jarrod W. Jacinth wrote in Feb of 2013 that he was buying Mitel. His argument was that the company was a bargain at a price-to-earnings ratio of 4.42 at the time, given even fairly modest annual growth of 15% coming out of a restructuring. He used the Graham Number and found that even that very conservative measure determined that Mitel was undervalued. So from a value perspective, this is a fantastic stock. To give non-finance people some perspective, a P/E of 10 means that, with the profits generated today, you could buy the stock at today’s price in 10 years (assuming you are looking at annual earnings). The average P/E of the S&P 500 stocks as of Jan. 1, 2013 was 17 – Mitel looks pretty cheap at first glance.

Jacinth hypothesized that Mitel’s low stock price came from their debt load. In 2013, Mitel owed $313M with operating cash flow just shy of $39M. If we look at coverage ratios of operating income-to-total-debt, we get 0.12 ($39/$313). In the industry, Avaya in 2014 earned $197M in operating income on $6,023 of debt, for a ratio of 0.03. Shoretel for the year ending June 2014 earned $36M in operating cash flows on $47M in debt in 2013, for a ratio of 0.76. To their credit, they paid down 30M in debt through a combination of stock sales and operating cash flows, though like Avaya, the company continues to lose money on a net income basis. Cisco earned $12.3B in operating income for the year ending 6/30/2014, on $35.8B in liabilities, for a ratio of 0.34.

More recently (last week), David Zanoni wrote that the turnaround at Mitel is under way. He notes that cloud services are growing by double digits, driving recurring revenue ever higher. A year after the Jacinth article, the debt picture is looking even better. For the most recent quarter ending 10/31/2013, operating income was $54.6M, up 40%, and debt is down to $288M, putting the coverage ratio now at 18%. Most importantly, Mitel has had some time to integrate the large purchase of Aastra further into its operations and can start to reap the benefits.

Mitel and Aastra have merged

Mitel and Aastra, combining like Voltron

As an investor, despite the recent run-up in Mitel’s stock price, I would think that Mitel’s stock has room to keep going up, assuming it can keep up the pace it has established. As the revenue mix shifts to recurring revenue from the cloud business, the company will throw off more cash which can be used to get the debt burden down further and continue investing in new technology. Mitel has a strong position and can continue to reap the benefits and scale of the Aastra merger, such as cheaper unit handset manufacturing costs and sales of Mitel software into Aastra customers. Of course, this is all just guessing – past performance is no guarantee of future results, and you should do your own homework before buying a stock.

For companies considering Mitel, the recent financial results should make you feel at ease. Mitel is on a roll, and every indication is that the company has a lot of momentum heading into the US economic recovery. Unlike competitors such as Shoretel and Avaya, it is able to maintain profitable growth while investing in the future and paying down debt, no easy trick. Unlike the Cisco behemoth, Mitel will return your call if you have under 200 seats.

Mitel, Shoretel’s just not that into you

After weeks for not talking to Mitel, it looks like Shoretel’s Board has managed to stay independent, as Mitel announced they are withdrawing their bid to acquire Shoretel. Reaction is pretty muted in the scant press that serves our industry, though some consultants that have historically worked with Shoretel were happy about the outcome.

Shoretel is a cruel mistress

Mitel will be curling up to watch this over the weekend (in German, because they are No.1 in W. Europe, see)

Key takeaways from this episode:

  1. No one is dying to get into enterprise telecom. No one else put a bid out for Shoretel.
  2. Competitors were not interested. As we mentioned in prior posts, competitors were not going to materialize as bidders. Avaya is up to its ears in debt, Cisco walked away from the small-to-medium business market Shoretel and Mitel are fighting over, and the Asian brands (NEC, Toshiba, Samsung) tend to pick “make” over “buy” no matter how bad their product turns out.
  3. Mitel continues to exercise Canadian prudence. Mitel was put in a position of bidding against itself, gamely upped the bid 40c a share, and walked away when Shoretel wouldn’t come to the table. The real risk for Mitel dealers is that Mitel made a bad deal to knock out a competitor and become saddled with debt, which fortunately did not happen.
  4. Wall Street gave a big shrug. Stocks for both companies barely moved, with trading volume for Shoretel off a third from the average.
  5. The hate between the two companies burns bright. Shoretel’s Board choosing to decline the offer is one thing, but refusing to discuss either offer with Mitel leadership is a sign of continued enmity between the two firms.

I am a little disappointed because I would have liked Mitel to capture some of the Shoretel magic when it comes to marketing their products. I am sure Shoretel dealers would have liked the SIP, contact center, security and virtualization capabilities Mitel brings to the table.

Mitel, Shoretel Merger Drama Continues

Mitel and Shoretel will merge... or won't they?

The drama continues to unfold, and this is playing out as many in the press predicted. Mitel CEO Rich McBee has reframed the offer Mitel (MITL) made for Shoretel (SHOR), and that Shoretel rejected, as an opening bid. So far, there are no white knights on the horizon coming to save Shoretel, so Mitel begins the bidding war against… itself.

Mitel and Shoretel will merge... or won't they?

An awkward courtship between two rivals

Taking a look at the recent earnings out for dear Mitel, and you have a lot of bright spots. Mitel’s cloud business is taking off with over 800,000 seats sold. Year over year, recurring cloud revenue is up 50%, to 21.7M a quarter.  The quarter’s loss of 5.1M is actually small beans now that the Aastra merger is complete, amounting to 1.9% of over a quarter billion in quarterly revenue. Cash burn was 12M, leaving $120M in the bank. And another $25M of debt was retired in the last quarter, as the company continues to hack away at the debt burden that went up a sixth following the Aastra merger. 50 people were laid off following the merger, so there does not appear to be a wave of cost consolidation. All in all, Mitel’s story of incremental improvement and shift to a cloud-based business continues apace.

Having seen the product roadmap for Mitel following the Aastra merger, we can say conclusively that the Mitel MiVoice Office 250 (the branded Mitel MiVoice Office that was once the Mitel 5000 after it was the Mitel 5000 HX and the Mitel 5000 CP and the Inter-Tel 5200/5400/5600 systems) is here to stay. It will not be virtualized – that is where the Mitel MiVoice Business comes into play – but it is the Mitel system for the small to medium sized business of up to 250 users. There will be a new Mitel system from Aastra – the Mitel MiVoice Enterprise – that will support up to 500,000 users. Give us a call if you know of any Fortune 500 companies and small countries

If we look at Shoretel’s recent financials, we see an interesting moment in time – GAAP profit! Yes, Shoretel has made some money, though a paltry $366,000 on $90M in revenue for the most recent quarter. Top line revenue is up, they are keeping a lid on costs (snarky competitors will note: marketing is just about 1/3 of revenue and costs), all to be commended. Mitel has pissed all over their parade because this was the quarter Shoretel was waiting for, as they finally achieved enough scale to turn a profit. They are still sitting on a nice pile of cash ($57M).

Cloud though is not such a great facet of the business for Shoretel. Since buying M5, we have not seen a really good cloud story from the brand, since the two lines are not really integrated at this stage. Hosted revenue is up from a year ago, up $4M from $20M to $24M.  Competitors like RingCentral and 8×8 are showing massive growth every year. Vonage has leveled off – perhaps due to their large residential service component – but has close to $900M in annual sales.

Diving into the revenue numbers, we see flat product sales. The increase in revenue year over year at Shoretel is the $4M in cloud and $2M in support contracts and services. Support contracts are profitable for manufacturers but also limited as to how large they can grow – they are driven by product sales. You can only jack the price up on your support contracts so many times.

As far as the merger is concerned, Shoretel might want a more dynamic partner than Mitel, and definitely wants more money, but Mitel has shown that they have figured out a way to share a single software stream between premise and cloud, something we are still waiting on with Shoretel. I am not in a position to say whether this hurts Shoretel and accounts for their relatively sluggish growth, but the story with brands like Mitel and Zultys is much easier to tell – customers can just pick the way you want to deploy your system and not think about differences in how things work.

I can also report as a Mitel dealer that there is reluctance from the dealer channel to sell cloud, but no matter, as Mitel has a small army of direct sales reps. Shoretel is more reliant on their dealer channel, so if their dealers look at cloud the way our dealers do (they hate it, more or less) then the slow growth makes sense. Just as Mitel benefited from Inter-Tel’s US & UK sales machine when that merger took place, so Shoretel could start to look at their acquisition by Mitel as leveraging a Mitel sales channel that is already pretty familiar with their product, without hurting their loyal base of dealers who are stuck on premise anyway.

Shoretel’s cloud phones use SIP, their premise phones use MGCP, and until they update their core phone business to the SIP standard they will be at a disadvantage as the days of buying a phone to match your phone system fade into history. Mitel’s new SIP phones are out on the market and will probably make it very hard to compete now that Mitel can leverage Aastra’s scale for production and experience with SIP.

The premise system market is far from dead, but no one is dying to break into the industry, either. Shoretel and Mitel are far more nimble than the large companies competing against them in the SMB marketplace, and have better technology than the hosted-only companies in the space. As feisty as both companies are, it might be time to think about the possibilities a combination affords.

Mitel’s Shoretel Offer

Exciting times to be a Mitel dealer in Los Angeles. With a crowded marketplace full of Shoretel dealers banging into each other on every deal, many IT VARs, MSPs, IT and Telecom Consultants, and Telecom VARs and Interconnects are eagerly awaiting what shakes out, if anything, from the Mitel bid for Shoretel.

On October 20, 2014, Mitel (MITL) offered $540M for Shoretel (SHOR), an offer Shoretel’s board rejected. In fact, Shoretel has publicly scorned the offer as financially inadequate and tooted their own horn regarding their recent successes, giving every indication that they were fiercely independent and going to stay that way. Mitel sued them over intellectual property on the eve of their IPO, so this announcement, on the heels of a quarter where Shoretel managed to eke out a positive GAAP (Generally Accepted Accounting Principles) net income could be seen as part and parcel of Mitel habitually raining on a competitor’s parade.

Except, for one, Shoretel hired Blackstone to advise them. This offer comes on the heels of last year’s executive exodus at Shoretel and a wave of insider selling over the last 12 months – all signs that there is something odd going on. We are looking at some weird execution problems at Shoretel lately too – it took about a month to patch the HeartBleed problem on their core systems, and this is still going on – different protocols and phones for premise and cloud.

Odd choice of Phone

Cisco SIP for Shoretel Sky

 

 

 

 

 

 

 

 

This blog post takes a pretty tough stance, noting that the telecom equipment market is consolidating as businesses shift to the cloud and that Shoretel has run at a loss for 16 years in a row. I would argue that the numbers clearly show that Shoretel’s cloud business is getting some traction. The counter to that is that SHOR’s cloud business is of insignificant size compared to 8×8 (EGHT) or Vonage (VG), who combine for a billion dollars in cloud telephony revenue a year. I would add that Vonage has a gross profit margin of close to 69%, and 8×8 runs at nearly 71%. Premise manufacturers like SHOR (59%) and MITL (55%) are going to face some challenges supporting a large premise base while they pursue cloud. I think combining to wring efficiencies and scale out of their operations is going to be crucial if these old-line companies are going to compete with firms with that big of an advantage.

Since Shoretel shares are 83% held by institutional investors, it looks like the barrier to a purchase may be more about price than stubbornly independent Shoretel leadership. This article features shareholders explicit about wanting a price in the $10-12 a share range, versus the $8.10 price of Mitel’s first offer. The stock has been flat for some time, so I would imagine shareholders are excited to see some movement.

So what does it all mean for our customers? If you are considering a Shoretel system, be aware that underneath the tough talk in the press releases, Shoretel hired investment bankers and Wall Street might like to see the company sold, so they can cash out on a stock, and a sector, that has been pretty flat. I imagine Shoretel is hoping for a bidding war to drive the price up, which would be a Pyrrhic victory for Mitel if they take on too much debt, though it is hard to imagine who would want to get in the game ahead of a huge technology refresh cycle about to sweep the industry.