Plantronics: A Headset Powerhouse with Just a Minor Headache Despite some current difficulties, its 50% worldwide share in a growing, perhaps explosive, market should keep it humming
As of early February this year, telephone-headset maker Plantronics appeared to have avoided the slump that had hammered everyone else in the telecom sector. Its shares were holding at just over $50 apiece, close to 52-week highs. Wall Street figured everyone from sole proprietors to big companies would keep buying the headsets used at call centers and in corporate offices. Plantronics was also grabbing market share in the explosive headset market for mobile phones and personal computers.
But the Street figured wrong. On Feb. 13, the company revised its earnings estimates significantly downward for fiscal year 2001, from $1.58 to $1.50 per share. More troubling, Plantronics dropped 2002 growth estimates by 12%, from $1.88 to $1.60. Then, on Mar. 19, the company dropped its fourth-quarter earnings target from 34 cents a share to between 16 cents and 19 cents a share. That set off the second spate of analyst downgrades in as many months as the consensus estimates for fiscal year 2001 dropped to $1.35 a share. The reason was all too familiar: Companies were putting off gear purchases, claimed Plantronics, and the slowing economy was taking its toll.
As if this wasn't bad enough, Plantronics is embroiled in a legal battle with Hello!Direct, a prominent catalog company owned by a rival headset maker that once sold Plantronics equipment. The slew of bad news sent the stock plummeting more than 50% from its early February levels, to the high teens by mid-March.
IN A SWEET SPOT. Slowing sales and volatile stocks -- sounds like a risky company to buy into, right? Hardly. Plantronics remains the top dog in a lucrative and growing field. The company is a cash-flow machine with almost no debt, a strong product line, and a very low cost structure. What's more, it sits in a sweet spot for the future of the Internet as more companies offer voice-activated services that require the type of high-quality gear Plantronics makes. "We think the valuation is extremely attractive relative to relevant indices and the S&P 500. It's a very low-risk proposition," says Greg Smith, an analyst at H&R Block.
The company agrees. On Feb. 22, it announced a planned stock buyback of a million shares out of a total of 49.2 million. Plantronics CEO Ken Kannappan explains that the buyback is a solid use of capital that should return value to shareholders without incurring the tax costs of issuing a cash dividend. And despite the current rough patch, Kannappan remains confident in his company.
A quick look at Plantronics' business illustrates why Kannappan's faith is likely well placed. The company has managed to keep costs low by farming its production to cheaper locales outside the U.S, mainly Mexico. Plantronics does no direct sales itself, spreading this costly task among a host of retailers. Sales are also highly diversified, with no single source representing more than 5% of total sales volume.
Furthermore, Plantronics has shone in R&D, coming up with innovative designs that drive sales -- the company won an Arthur Andersen innovation award last year. Its name might be the only widely recognized one in the field, in fact. "They have developed and created a brand that represents about 50% of the wordwide market for headsets," says Hoefer & Arnett analyst Kevin Daly. Add to that a tightly focused business and an average annual revenue growth of 16%, and you can see why Plantronics has been one of the most reliable growth-stock performers on Wall Street.
ROBUST MARKETS. Here's how the business breaks down. Plantronics' sales are segmented into four areas. Call centers that buy hands-free headsets for their customer-service reps make up 40% of total sales. That market, says Kannapann, is growing by 7% to 8% each year and has stellar gross-margin percentages in the mid-double digits. Office workers that want hands-free phones represent 42% of sales, a segment that's growing 20% annually but remains very immature. Most of the sales are in the U.S., and less than 10% of all office workers globally using the phone for more three hours per day own headsets. Gross margins in the office market are just as high as those in the call-center area.
The biggest growth areas for Plantronics, however, are the headset markets for mobile phones and PCs. Plantronics says 13% of its business is now in the former, while about 5% goes to the latter. But those two businesses collectively grew 300% in the past year and should be the long-term growth engine of the company. Kannappan says he expects them to settle down to a mere 40% to 50% annual growth rate.
The mobile-headset market in particular looks to be a franchise for Plantronics. According to consultancy Strategy Analytics, two years ago only 3% of U.S. cell-phone subscribers used headsets. Last year, that jumped to 6.5%, and the current tally is 12%. "We're talking huge growth," says David Kerr, a vice-president at Strategy Analytics. Kerr estimates that this market in the U.S. alone should hit $3 billion within five years.
FLYING OFF THE SHELVES. The downside of mobile headsets? Plantronics will have to deal with lower margins and more competition. But that doesn't appear to be hurting much. The four product lines combined have fueled stellar sales growth, with annual revenues soaring from $183 million in 1996 to $315 million in 2000. Plantronics has already clocked $311 million in sales for the first three quarters of fiscal 2001 and will easily eclipse last year's tally.
Bigger sales have led to bigger profits. In 1997, the company had a net income of $29.7 million. Last year, it hit $64.5 million. Even more encouraging, the company has managed to become more efficient: Gross profit margins have risen from 53.6% in 1997, to 58.9% last year.
So why the slumping shares? Some of it can be blamed on indiscriminate damage to the tech sector. But also contributing are troubling signs at Plantronics. As sales slowed, the company's inventories ballooned to $50.4 million during fiscal 2001. That compares to inventories of $33.8 million for fiscal 2000.
LONG-TERM STRENGTH. Kannappan himself warned investors that the company might have trouble collecting cash from its customers. "They get a large majority of their revenues from the call-center and corporate-office market. That's obviously tied to the economy," says Merrill Lynch analyst Seth Webber, who downgraded the stock to neutral after the earnings-shortfall announcement. Meanwhile, Hello!Direct's lawsuit against Plantronics, filed on Feb. 20, has spooked the markets a bit. Kannappan says the suit should not materially affect the performance of the company.
Lawsuit and earnings warnings not withstanding, almost no one sees Plantronics as having serious long-term problems. H&R Block's Smith has a $44 price target on it, getting there within 18 to 24 months. Arnst & Hoefer's Daly says a $35 valuation isn't a stretch. Even Merrill's Webber is bullish on the company long-term. Add it all up, and that seems to spell a buying opportunity. Investors might have to wait a while for a payoff, but the patient stand to be rewarded.
Salkever is technology editor for BusinessWeek Online in New York Edited by Robin J. Phillips
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Copyright 2001, Bloomberg L.P.
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