Established back in 1996, Melbourne IT (ASX:MLB) has grown from a company focused on registering Australian domain names to being listed on the ASX in 1999 and is now a provider of a range of web based services. From 2003 the company expanded rapidly via a number of strategic acquisitions and now must not only deal with the global economic downturn, but also face intense competition in a number of it’s key product areas.
In simple terms Melbourne IT (website) is company that manages domain names, offers website hosting packages and provides associated software and services. It offers a variety of products both directly under it’s own brands and also via a network of global resellers. Much of the company’s earning are defensive in nature since even in a downturn businesses need to keep their websites online and domain names registered.
But the conundrum Melbourne IT face is that they offer a range of products and services that allows them to tap into a global market, but this also means global competitors can also tap into their market. For example as more businesses and homes in Australia gain access to broadband this will drive up demand for website hosting, website design and domain registration, but these solutions can be increasingly delivered by companies, small businesses or even individuals scattered across the globe.
So far the company appears to have done pretty well in integrating the acquisitions it has made and for many years management have reported doubt digit growth. As of the end of December 2008, Melbourne IT had an operating margin of 17.3%, a Return on Equity of 19.3% and Net Profit at 8.8%. If you put this together with a generous fully franked dividend then there is a lot to like about the company’s shares at current prices.
- Melbourne IT (ASX:MLB) 2 Year Price Chart
But a few good performance indicators and a battered stock price are not good enough reasons to leap in and buy the stock. In the 2009 AGM Presentation there is a bullet point that reads “Final quarter 2008 – evidence of slowdown in all divisions” so this indicates that their business areas are now being hit by the global economic slowdown. But how much of a hit will company revenue and profits take?
It is not possible to predict exactly how Melbourne IT will fare in the months ahead but I also noted in the AGM material that the company planned to allocate funds to a fairly large CAPEX budget, and therefore the management team will need to manage this very carefully if revenue falls significantly.
The other issue that concerns me a little is that many IT related companies start off small and nimble but as they grow their cost base also expands. Instead of just being a small company run by a few tech focused people these types of companies become much more formal as they grow and therefore have additional organisational costs such as training, HR, offices, marketing and an increasing number of managers and executives.
This means they can no longer compete with low cost operations or suppliers of cheap hosting packages based in the U.S for example. In a roundabout way their success can actually become a weak point. To counter this Melbourne IT focuses on areas such as quality, innovation and customer support, but following this strategy also drives up costs and the company has to rely on clients being willing to pay for a higher grade of service and products.
In addition global giants like Yahoo, Google and Microsoft seem to be spreading into many of the same business areas as MLB as well as range of domestic competitors including Telstra. So Melbourne IT is operating in a very competitive global environment and it will be a challenge for management to maintain or improve on current profit margins in the years ahead.
But the company in the past has shown it can grow revenue even in a very competitive environment, so perhaps Melbourne IT is well worth looking at for investors who are seeking a stock that could deliver both income via dividends and share price growth over the medium to long term.
The author of this article has no direct or indirect stock holdings in MLB at this time.