NEI: Unicom's Takeover Offers A Little Light

Jun.22.12 | About: Network Engines, (NEI)

On Monday, NEI (NASDAQ:NEI) a provider of server-based application platforms, deployment solutions and lifecycle support services for software technology developers and OEMs worldwide, announced that it signed a definitive merger agreement with Unicom Systems under which Unicom will acquire NEI for $1.45 per common share in cash. The transaction is valued at approximately $63.2 million. The price represents a premium of approximately 85.5% to NEI's closing price of $0.78 on June 18, 2012.

Taking a 20,000 foot view, the takeover offer seems rich as the premium is very significant. However, taking a closer look it seems as though NEI's shareholders have bailed on the company and want to cut their losses. That may be because the stock has suffered significantly over the past 2 years. In mid-2010 it was trading at over $3 a share, before falling to less than 80 cents a share this June.

The company has experienced numerous difficulties with the most recent this April with the loss of a large customer. On April 12, NEI said that it had been notified by EMC that, as part of a strategic initiative, the integration of certain EMC standard platform products will be transitioned away from system integrators. The Company expects these products to begin to be transitioned from NEI during the December 2012 or March 2013 quarters. The stock dropped 25%.

There is no question that NEI's business has taken a turn south with revenues projected to decline in both FY12 and FY13 but the valuations look a very cheap on the transaction. Although the EV/EBITDA ratio is 5.0, which is on par to the 5.0-5.3 range competitors Avnet (NYSE:AVT) and Arrow Electronics (NYSE:ARW) are trading for, the asset valuation is cheaper than one would expect cheap. Unicom is paying just 65 cents for every dollar NEI has created in shareholder value. I.e the P/B ratio is just 0.65 and NEI has most of its asset base in current assets. NEI's current assets total nearly $111 million and liabilities just $37 million. Unicom's $63.2 million doesn't even cover that figure let alone the relationships NEI has established or the money it has poured into marketing. For comparison's sake, AVT is trading at a P/B ratio of 1.1 and ARW is at 1.0. A similar valuation for NEI would be about 50% higher than the current offer for the company.

It seems to me like NEI's management is heading for the exits while not being too concerned for shareholders. The top two executives will receive bonus payments once the transaction closes and the price of the buyout isn't that important for them with their small ownership stakes. Insiders hold less than 1% of the stock. NEI's CEO, Gregory A. Shortell, is expected to receive a bonus of $950,000 while CFO Douglas G. Bryant is expected a bonus of $475,000 on the closing of the transaction.

NEI does have some time to shop itself around. Under the terms of the definitive merger agreement, NEI is permitted to solicit alternative acquisition proposals from third parties through July 18, 2012 and intends to consider any such proposals.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.