We are constantly on the lookout for new names to add to the model portfolio, and we want to put a portion of our 18% cash position to work today by taking an 800-share position in Roxio ROXI, a Stealth Stock that is currently trading at $4.60.
Roxio owns Napster, one of the most recognizable names in the music-downloading space. Napster, as you may recall, was the pioneer enabler of free music file-sharing until the FCC banned the practice. With the days of free file-sharing a distant memory (at least legally), subscription-based downloading is the method of choice for more than 1 million people using MP3 players. Roxio is a key player in the means of delivery and is positioned to benefit from a couple of developing catalysts that should play out between now and the holiday season.
First, the company announced Aug. 9 that it is selling its consumer software business to Sonic Solutions. This segment accounted for nearly 75% of the company's first-quarter sales, but it has seen its sales slowing year-over-year and it was relying on cost-cutting measures to protect its margins. The deal, which should close by year-end, will bring in $70 million in cash and 653,000 shares of Sonic Solutions common stock valued at $10 million. The sale allows Roxio management to focus its attention, and cash, on building the Napster brand into a profitable entity and capitalize on the demand for online music.
Second, Microsoft (MSFT) is on the verge of releasing its long-awaited Janus Technology, which gives MP3 owners the ability to download an unlimited number of songs and put them on a number of different portable devices. Most providers don't currently permit that service. This technology is an attack on Apple's (AAPL) dominance of the download world, and should level the playing field for other device makers and users. Janus should be up and running by the end of this year, and Roxio is expected to be one of the first companies running the program. Third, Roxio has partnered with Best Buy (BBY) , the country's largest consumer electronics retailer, in time for a holiday push. In exchange for 5% of Napster, Best Buy will promote Napster as its leading digital music service through comprehensive in-store marketing activities as well as print and online advertising.
We like all of these efforts and are confident that Roxio's management will continue taking steps to position the company to benefit from the current, large-scale rollout of online music. Although growth in its software business has been slowly decelerating, Roxio has raised guidance the past two quarters and cited strength in Napster both times. In addition, it is working on signing more deals similar to the Best Buy partnership, which will ultimately increase exposure of the Napster brand as a viable player in the industry.
The sale of the software business reduces Roxio's cash burn and gives management the time and tools necessary to invest in Napster. The company has more than $3.50 a share in net cash with almost no debt. After backing out the cash, the stock is valuing Napster at about 75 cents a share, or only 0.73 times next year's sales estimates. To put this in perspective, Yahoo's (YHOO) recent purchase of Music Match was valued at about 3 to 6 times sales. Roxio has a library of 750,000 songs, 50,000 more than Music Match.
The stock also scores well in the Alpha component of our proprietary rating system. There are only 31.38 million shares in the float, and more than 5 million are short. Based on the average daily trading volume, it will take the shorts 20 days to buy back all of the borrowed shares that have been sold. Additionally, the stock has shown the ability to make 20%-plus moves in a short period of time, as it did when it raised guidance for the two previous quarters.
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