The sting of the scorpion – MER Telemanagement Solutions proves me right… again

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I hold the world but
as the world, Gratiano;
A stage where every man
must play a part;
And mine a sad one.
— William Shakespeare

Being proven right is supposed to make you feel good.

However, In reality — and in particular when you deal with the stock market — it is a bittersweet feeling, because of the massive collateral damage that often is associated with the events that prove you right.

MER Telemanagement Solutions and its equity, MTSL, whom I follow with quite a lot of interest, have over the last 18 months, in conjunction with the lemming market, continually given me the opportunity to be proven right. And, oh boy, have the bodies piled up.

It started with the company’s predictable loss of its single most important contract and the combination of the company’s apparent refusal to warn about this event (if I could see the event coming, you can be sure that the company’s management team and Board of Directors could, too) and the market’s refusal to accept the event as a fact even when all the signs were there (read more about this, my first bittersweet victory, here.)

Since then, there has been numerous occasions where I have been proven right about MER Telemanagement and MTSL. All of these have had one thing in common: The fact that the company has refused to engage on — and/or communicate to the market — a plan of cost-savings in order to compensate for the enormous loss of margin and revenues that will result from the loss of the key contract (the contract expires in this calendar year,) and its decision to — instead — attempt to build new revenue streams through the capture of new business.

I have written in great detail about this refusal and the problem with the company’s chosen strategy. In fact, in my latest posting (here,) I detailed why the revenue-capture strategy would not work, saying, among other things, that:

The reason why I don’t think that this new business acquisition focused strategy will work is quite simple.

First, there is the issue of timing of the replacement revenues and the depth of the loss. In my experience, managed services based contracts are upside down for a considerable amount of time and cloud based contracts are a slow way to grow vendor revenues (at least at first) and, critically, are entirely dependent on the success of the customer, which effectively means that the pace or security of the revenues and margins are not controlled by the vendor.

So, the acquisition of new business, including the recently announced contracts with SBC Communications, LLC (not to be mistaken with SBC/AT&T) and DataXoom (an apparently embryonic business …,) a contract somewhere in Africa, and a contract vaguely referred to by the company in a past press-release, probably will not offset the revenue and margin loss expected to kick in when 2014 rolls around (the revenue loss from the Simple Mobile contract is expected to be more than $300 thousand per month and the bottom line impact may be $300 thousand, or more, per quarter.)

In fact, because of the nature of managed services contracts and cloud contracts, which effectively shifts start-up costs and risks from the customer to the vendor, these new contracts may increase the size of the loss in 2014, rather than reducing it.

This is a short to medium term consideration, and will not be addressed by any number of contracts unless one or more of these contracts is extra-ordinary, enabling the front-loading of considerable revenues.

Today, as they say, the chicken came home to roost, when the company announced deteriorating results, with increasing expenses and deteriorating revenues in spite of — or perhaps because of — a high number of new contracts. Here is an extract from the third quarter earnings release:

Revenues for the third quarter of 2013 were $3.0 million, compared with $3.4 million in revenues during the same quarter last year … The Company’s operating profit was $391,000 in the third quarter of 2013 compared to an operating profit of $697,000 for the third quarter of 2012…

This decline, which in itself does not seem catastrophic, has to be understood in the context of the loss of the aforementioned key contract, which contributes $300 thousand in revenues per month and an estimated $300 thousand, or so (probably, in fact, considerably more,) in operating profit per quarter. Without this contract, which, I hasten to say, there are not indications will provide any contribution beyond calendar year 2013, the revenues for the third quarter would be $2 million, or so, down from $3.4 million, and the operating profit would be zero or negative. A catastrophic outcome, indeed.

The market reacted promptly, of course, dropping the per share price more than 10% in early morning, with the drop only arrested by the fact that there were few — if any — interested buyers during the morning hours.

A scorpion and a frog meet on the bank of a stream
and the scorpion asks the frog to carry him across on its back.
The frog asks, “How do I know you won’t sting me?” The scorpion
says, “Because if I do, I will die too.”

The frog is satisfied, and they set out, but in midstream,
the scorpion stings the frog. The frog feels the onset of
paralysis and starts to sink, knowing they both will drown,
but has just enough time to gasp “Why?”

Replies the scorpion: “Its my nature…”

The issue, of course, is that managed services, cloud, and SaaS is, at best, a loss-leader and, at worst, a speculative investment in someone else’s business that you cannot affect the outcome of.

When the market looks at cloud and SaaS as an opportunity, it sees, but it forgets that is not a profitable venture and is only functioning because it (through financing by investors) has the deep pockets required to (hopefully) scale its business to the tipping point where all these new (and speculative) contracts starts to materially contribute to the bottom-line — a race for survival if you want.

MER Telemanagement Solutions, a micro-micro cap, does not have the luxury of near-infinite cash reserves — or, for that matter, the marquise customers that is hitching its bet on,) and I am personally baffled as to why the company’s management appears to be unable to understand this simple fact.

ClickSoftware Technologies is struggling with a similar situation and are learning some very hard lessons about the cost of not scaling back on expenses while you wait for the SaaS/cloud gravy traing to come in (you can read more about this here.)

All this, of course, just proves me right, but this being-right is not a function of superior insights on my behalf, but, rather, by the apparently suicidal nature of the company’s Board of Directors and management team.

Committing suicide, of course, is alright, but only if you don’t take a lot of frogs with you.

Participate, please….

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