ITV Slump Makes Some Urge a Shakeout

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When Liberate Technologies Inc. shelled out 886,000 shares of stock worth $172 million to acquire a "Virtual Modem" patent from Source Media Inc. and Insight Communications Co. a year ago, some observers thought Liberate overpaid.

After all, Insight was the only cable operator that had deployed the product, which enables Internet surfing via the TV, so the technology was fairly unproven in the marketplace.

But now that interactive-TV stocks have collapsed-including those of Liberate, Source Media and several other companies-it may be that Source and Insight got the short end of the deal. The Liberate shares they acquired have fallen in value from $98 to about $15 apiece, trimming the value of their stake to a paltry $15 million.

Liberate, which is off more than 90 percent from its high-par for the course in the ITV sector-still has $427 million in cash in the bank.

According to David Limp, Liberate's executive vice president and chief strategy officer, that's enough to continue operating "well into profitability-we can see no reason that we would have to go back to the capital markets."

But the outlook is harsher for smaller companies, such as Source and WorldGate Communications Inc., which both say they have enough cash to operate for about another year.

Some ITV executives and industry analysts predicted the ITV slump might soon spark some consolidation. Source and WorldGate executives said the cash drain could force them to seek additional financing, or to sell equity to raise funds.

"We're thinking about a lot of things right now," said Source CEO Steve Palley. "Obviously, additional financing would be good for us."

The $25 million to $30 million in cash Source has on hand is enough to get the company through 2001, Palley said.

Source's immediate challenge is keeping its stock listed on the NASDAQ exchange. The company recently disclosed that it received a warning letter from NASDAQ, which said it did not comply with market-capitalization requirements for continued listing.

SHARES PLUMMET

Shares in Source started 2000 at about $18 each but fell below $1, to 91 cents, at the close of Dec. 19. That means its market capitalization-Source's share price multiplied by the number of shares outstanding-fell from $178.7 million on Nov. 10, 1999 to $23.5 million last Thursday.

Source's share price was below $1 for 14 consecutive days, finishing the year at 47 cents. It has rebounded slightly and closed last Thursday at $1.38.

Palley, who said he "doesn't look at our stock price anymore because it's too hideous," said he expected to be able to convince NASDAQ to continue listing the stock.

Insight, which has deployed Source's interactive program guide and interactive local content to about 100,000 subscribers, is the ITV provider's only cable operator customer. But Source announced a deal with overbuilder Everest Connections in November, and expects to report agreements with additional overbuilders soon, Palley said.

Earlier this month, Source also said it would lay off 30 people in its IT Network Inc. division and discontinue its "Yellow Pages" directory product.

The IT division, which also produces audio content for wireless and Internet devices, generated $20 million for Source last year, Palley said.

Source now sells its "LocalSource" and "SourceGuide" products through a 50-50 joint venture with Insight. Insight chief operating officer Kim Kelly said Source's stock slide doesn't reflect what is happening in the ITV sector, and suggested that Source's heavy ($96 million) debt load is dragging the stock.

Despite the stock slump and a lack of cable-distribution deals, Palley remains optimistic.

"It's going to be a very, very big industry," he said. "There's going to be room for a fair number of successes. Once that begins to happen, which I believe will begin in '01, you're going to see a significant turnaround in the ITV market caps."

WorldGate CEO Hal Krisbergh, who is as optimistic as Palley, called the slide in the ITV sector unwarranted.

"It seems to be insensitive to profitability and performance and revenue," Krisbergh said. "People are overreacting, obviously in my view, or certainly reacting strongly to this tech correction. And it's a little case of take no prisoners.

"I think the problem is that you had a decent industry that hadn't yet gotten off the ground, and one would expect them to get hit that much harder during a period of uncertainty," he added.

WorldGate said it counts about 100,000 subscribers, 40 percent of which are in international markets-mostly in Mexico.

After opening 2000 at $45, WorldGate shares have fallen with the rest of the sector, and closed Thursday at $5.68. The company's market cap declined from $458.2 million on Oct. 29, 1999 to $130.6 million last Thursday.

WorldGate last reported that it had $28 million in cash, which Krisbergh said is enough to keep operating for "well over a year." The company may also seek additional financing, he added.

"It's not clear that we could do it [generate enough cash] all through operations, although it's possible," Krisbergh said. "But if it requires us to go out for some cash, we could always do that, or there's been a lot of strategic interest to make strategic investments."

WOOING WORLDGATE

Gerard Klauer Mattison analyst Michael Cristinziano said he thinks WorldGate would be a good merger partner for Liberate or another ITV software provider, OpenTV Corp. WorldGate is poised to pick up distribution through thin-client set-tops such as the Motorola Broadband Communications Sector "DCT-2000."

Liberate has a good play for MSOs deploying advanced digital set-tops, while OpenTV has had success with satellite players, the analyst pointed out.

Cristinziano said he remains bullish on WorldGate, rating it a strong buy. "From an execution point of view, the company has done everything it set out to do," he said.

SG Cowen Securities analyst Gary Farber also said consolidation would help the sector, pointing out that "investors are going to flow to the standard."

No ITV service is widely deployed, but Farber believes consolidation could change that. Wink Communications Inc. CEO Maggie Wilderotter also said mergers could be on the horizon.

"I do think that consolidation could definitely happen," the Wink CEO said. "I also think you'll also see a lot of players go by the wayside. I think at the end of the day, there's going to be fewer players 12 months from now."

Although Wink's interactive-advertising platform is the most widely distributed ITV service in the U.S. with more than 500,000 subscribers, its stock has fallen with the sector. The company, which opened 2000 at about $55, closed Thursday at $8.06.

Wink reported it had $130 million in cash at the end of the third quarter. With an average quarterly burn rate of $6 million, Wink has enough cash on hand to operate for five years, Wilderotter said.

Some would expect that the fall of Liberate's stock would limit its ability to use its stock as currency for acquisitions, but Limp disagreed with that point.

"Yes, my currency on a dollar basis isn't what it was," he said. But the value of companies that it could acquire "aren't as much as they would be either."

Limp said Liberate would consider acquisitions "if we see a company that makes sense," but declined to comment when asked if the company is currently in any merger talks.

He also predicted further consolidation.

"I think that over time, we have said that we think this market for middleware providers in the ITV space will work its way down to two or three major players," he said.

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