How Think Partnership Can Get Its Groove Back

Shares in Think Partnership (Amex: THK) have recently experienced a greater than 50% sell off, likely the result of several factors including: insider sales in the $3.10 per share range, negative sentiment for the lead generation business due to ValueClick’s (Nasdaq: VCLK) recent earnings shortfall and then THK’s own earnings shortfall.

While this unfortunate series of events certainly should impact investor’s valuation of THK shares, it appears that the sell off might be a bit overdone. The company’s recent announcement of the hiring of investments bankers to “review strategic alternatives” suggests that THK’s Board of Directors is seriously considering the recent shareholder proposal that the Network division (Kowabunga Technologies) be spun off in an IPO ala EMC’s (NYSE: EMC) recent spin off of VMWare (NYSE: VMW) and United Online’s (Nasdaq: UNTD) pending spinoff of Classmates.com (Nasdaq: CLAS). Should this occur, we expect that Kowabunga would command its own market cap well in excess of $100 million. Given that the current valuation of the entire company is below $100 million and that the company also has a very strong, growing and profitable lead generation and advertising business, it appears that investors may be throwing out the baby with the bathwater.

The main thing we would like see prior to a Kowabunga spin off is greater scale, both on the Kowabunga side and for the assets that would remain with the parent company THK. We expect that the recent affiliate deals with MSFT and CNET will start to ramp revenue significantly in Q3 and that will provide much of the heft we are seeking for the Kowabunga side.

The growth vehicle for the assets remaining with THK will be the lead generation segment of the THK’s "Direct" division and we would like to see management build or acquire greater scale prior to a spin off. Recent discussions with THK CEO Scott Mitchell lead us to believe the company is giving m ore than serious consideration to the latter, indicating that they are now very open to doing acquisitions if the right deal came down the pipe. He indicated that management believes the issues plaguing ValueClick’s lead generation business have caused the publicly traded pure play lead generation companies to trade at remarkably low valuations, particularly in light of the growth trajectory of the smaller players and the fact that most of Value Click’s issues were company specific.

A quick review of the pure play publicly traded Lead Gen companies that might be on THK’s shopping list lead us to Traffix (Nasdaq: TRFX) and Commerce Planet. (OTCBB: CPNE). While TRFX’s lead generation ops and affiliate program would make a good fit within the THK family, the recent sell off in THK shares has left its market cap only slightly higher than TRFX, which might make it a difficult deal to pull off. We believe that Commerce Planet might be a better fit for many reasons not the least of which is that its almost identical in size in terms of revenue and EBITDA to THK’s direct division and its trading at a valuation ($33M) that would allow THK to pay a significant premium.

Like THK’s direct division, Commerce Planet is a very profitable, rapidly growing, cash generating machine. However, it is also a good example of a company that should probably not be publicly traded. It appears that the company struggles to communicate effectively with shareholders, struggles in its ability to market the company to potential investors and requires a disproportionate percentage of its resources to simply maintain its status as a reporting company. This is best evidenced by the valuation accorded to its shares, which currently trade at a valuation that is about 3x its trailing twelve months earnings. This is best evidenced by the valuation accorded to its shares, which currently trade at a valuation that is about 3x its trailing twelve months earnings. For a company that is experiencing high double digit revenue and EBITDA growth year over year without signs of a slowdown, a single digit P/E is very rare and one trading at 3x trailing twelve months earnings suggests a fundamental disconnect between the trading of the stock and the company’s prospects.

A THK/CPNE marriage would be a good fit for several reasons including the synergies resulting from each company’s strong presence in the "home based business" lead generation space and the potential for THK to leverage the very low cost fulfillment infrastructure already built out by CPNE. Probably the greatest benefit from such a merger would come from THK’s unique ability to address the only apparent significant operational issue that has recently plagued CPNE. In its last 10Q, the CPNE CEO disclosed that the company’s very profitable affiliate program channel had experienced some issues related to affiliate fraud / chargeback scenarios that might limit the company’s willingness to use that channel that had been so productive in the past. Think Partnership’s patent pending fraud prevention technology (ValidClick) that is integrated with its Kowabunga affiliate platform could curtail such issues and allow the company to operate in that channel that allowed them to book profits in Q1 2007 that were about 50% higher than they were before or after.

Joining THK’s direct division with Commerce Planet would double the size and profitability of THK’s direct division and enable it to have the scale to be among the most significant players in the lead generation space. It appears that THK could offer a premium of more than 100% of CPNE’s current stock price and still have a deal that is highly accretive. Further, bringing the CPNE assets into the fold would create another significant revenue stream for Kowabunga’s click fraud free affiliate network and possibly other THK divisions due to CPNE’s spending over $10 million per year for online advertising.

We believe that THK’s current valuation does not reflect the long term potential of THK‘s proprietary technology or the near term potential of its cash generating assets. We believe the company is on the verge of a return to being a growth story again and expect to see significant organic growth going forward in addition to growth by acquisition. We further note that if management can pull off a deal for CPNE or some other significant player in the lead generation space that is similarly undervalued, investors might get to see THK get its momentum groove back very soon.

Disclosure: Author is long THK, CPNE and TRFX

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