Page: Print CRITERION: Tim Boreham | March 11, 2009 Article...

Page: Print CRITERION: Tim Boreham | March 11, 2009
Article from: The Australian
Entertainment Media & Telecoms (ETC) 20.5c.

Some astute (and brave) investors are going to make money in this torrid market by retaining faith in overlooked small-cap plays. In the case of Entertainment Media & Telecoms, they'll be very rich if the oddly named IT security outfit meets even its base-case earnings expectations.

Conversely, there's always the chance that ETC -- which is surfing on global concerns about people trafficking and terrorism -- will join the long ranks of other IT companies failing to live up to their promises.

Through its Malaysian offshoot Nexbis, ETC upholds national security by verifying the authenticity of documents such as passports, birth certificates and identity cards.

In oversimplified terms, ETC's patented software allows for enforcement officials to read a barcode using a standard camera phone. The data is then relayed to a database for verification.

This doesn't like a big deal: verification systems are not new, with Australian customs recently adopting chip-based passports. According to ETC chief Johann Young, our border guardians have been sold an outdated process: the chips are vulnerable to hacking because the data is stored on the document, rather than on a central database.

"There's nothing in the market that can provide what we can provide so far," Young claims. In any event, ETC's case has been convincing enough to convince the Malaysian and Chinese governments to award binding long-term contracts.

The Malaysian contract, worth $60-80 million annually over five years, relates to a government crackdown on foreign workers. The workers are sponsored by an employer to enter the country but tend to disappear, often on fake documentation. Now, every worker will need a foreign-worker visa sticker on his or her passport, as well as an ID card.

ETC is paid a fee for printing a barcode on each of these documents, as well as an annual maintenance fee.

In China, ETC has won a mandate, worth $US200 million ($312.8 million) over the next five years, to mark and track each of the 35 million new LPG gas cylinders produced each year by 120 manufacturers. Gas bottles are commonly used in domestic cooking but counterfeits have a nasty habit of exploding, which puts a new perspective on the China boom.

In Vietnam, ETC is in the running to keep tabs on the country's 24 million driver licences, which are slated for a much-needed upgrade. Management has also pitched for Britain's proposed ID card and for work in Saudi Arabia, the Philippines and Thailand (if it can find a government to talk to).

Investors have been reluctant to back ETC, probably because IT stocks have a poor record and because Asian contracts are not believed until the money is banked. In this respect, ETC needs to prove itself in the current half as Malaysian and Chinese revenues start to flow.

ETC reported a net profit of $8.1 million for the first (December) half, on revenue of $13.2 million. The margins are fat because the only real expense is the patents, which is a fixed cost.

Management forecasts a net $48 million for the full year (EPS of 4.1c). "It is hard for some people to fathom," Young says of the margins on offer. "We own the IT and we are only giving (the customers) what we have developed before, so our cost base is low."

Criterion rates ETC as a speculative buy, on three provisos. First, there's a secret-squirrel air about the contracts. "We are quite sensitive about disclosing what department we are working for unless they have gone public," Young says.

Second, we're scarred by his experience with high-speed encryption flop Senetas, which promised huge defence contracts before imploding.

Third, ETC shares have been under pressure because 8.5 per cent holder Queensland Investment Corp has been a persistent seller. Maybe investors should view this as an opportunity, given the stock is trading on a multiple of less than two times forecast earnings.