Wednesday, March 28, 2007

Why I consider Optimal Group a bargain

Shares of online payment processing company Optimal Group (OPMR) crashed as a result of the US Internet Gambling Enforcement Act of 2006. The payment processing service for the online gaming unit provided approximately 50% of the company's revenue. According to the annual filing about 80% of this segment came from US sources, i.e. 40% of total revenues will be affected by this law.

Upon passage of this act Optimal Group divested this business segment into FireOne Group plc. an Ireland-based provider of payment processing services for the online gaming industry. Optimal owns 76% of FireOne Group.

Even if the outlook for this business segment does not improve, I still think Optimal Group is a bargain. The company's non-gaming unit, Optimal Payments, accounts for 60% of the revenue. While it has lower margins than the gaming unit, Optimal Payments is still profitable on a GAAP basis and generates considerable cash flow.

The balance sheet is solid. The company has cash and investments net of bank debt and customer obligations of almost $182 million ( approximately $8 per share), working capital excluding reserves of $94 million, and shareholder equity of $219.3 million (all as of Dec 31, 2006).

"Clinton Group" a major shareholder and hedgefund controls has about 4.9% of the shares. They have urged management to distribute the cash to shareholders as a special dividend or a dutch tender offer. In addition, they would like management to put itself on the block for sale. Clinton Group has reduced its holding from about 6.3% to the current 4.9%. Either way, the siginificant cash position will act as a floor on this company's share price.

Optimal Group has engaged Genuity Capital to investigate strategic alternatives. Recently, Optimal bought back about 1.1 million shares, something that the Clinton Group had suggested to Optimal's management. Optimal has also recently announced an offer for all of the outstanding shares of FireOne Group plc.

At this point the company looks like a bargain.