SHAREHOLDERS AND POTENTIAL

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InfoSpace

InfoSpace, of Bellevue, Wash., is probably best known for its web sites, including Dogpile.com, MetaCrawler.com and WebCrawler.com. So-called metasearch sites, they select results from several search engines at once, notably big boys Google and Yahoo.

The company also sells private-label search services, meaning that when you run searches on Nasdaq's or Verizon's web sites, it's actually InfoSpace's search engine that's doing the work. In the mobile business, for example, InfoSpace powers the Media Net service for Cingular, owned by AT&T, allowing the carrier's cellphone customers to send instant messages and download games, among other life-sustaining necessities.

So InfoSpace has two businesses online and mobile and both of them have issues. The online business, made up of the metasearch and private-label services, is the company's cash cow, generating more than 60% of its gross profit last year. One of the biggest difficulties facing that business is that the search service ain't that great.

"The problem with that product is that it offers an inferior search experience," says Mark May, an analyst with Needham. "Rather than always delivering you the most relevant results, it delivers you the most relevant advertisements, which aren't always the same thing. From a consumer perspective, they don't compare favorably to the bigger names like Google."

The mobile business's problems are more extreme. In late September InfoSpace disclosed that Cingular, its largest ringtone customer, wouldn't renew its contract. (Carriers have moved to sign deals directly with major record labels, cutting out InfoSpace as the middleman.) Three weeks later the company decided to exit the mobile content business, which contributed the bulk of the division's revenue.

Shares plunged nearly 22% on Sept. 21, the day after InfoSpace disclosed the loss of the Cingular contract. They have recovered and then some since that time, including a 13% run-up so far in 2007, but for the trailing 12 months they're essentially at break-even, inching up a little more than 1% to $25.17 as of Wednesday's close. That puts the market cap at $792 million. By comparison, the small-cap benchmark Russell 2000 index gained about 8% over the past 12 months.

At first glance, that's not too bad, considering all the red ink. Last week InfoSpace said it swung to a first-quarter loss of two cents a share, wider than analysts' average forecast for a loss of a penny a share, according to Thomson Financial. For the second quarter the company forecasts a loss of 12 cents to 15 cents a share; for the full year, InfoSpace projects a loss of three cents to nine cents a share. Analysts, for their part, see the company posting a loss of 12 cents a share for all of 2007.

Of the 11 analysts covering the stock, eight have it at Hold and three call it a Sell. Their median price target of $26 implies an upside of just 3% in the next 12 months or so. Stewart Barry, with ThinkEquity Partners, downgraded the stock to Accumulate (Hold, essentially) last week, based on valuation. Derrick Woods of Pacific Growth Equities maintained his Neutral (read Hold again) rating based on valuation and concerns with the online business.

With the last 12 months having produced a cumulative loss, there's no trailing price/earnings multiple, and with analysts expecting a loss for 2007, there's no forward P/E or price/earnings-to-growth, or PEG, data, either. There are no earnings in site, the company's in the midst of a challenging transition and the online business is under pressure. What, then, is supporting the stock?

Some near-term cash with the lure of a lot more to come.

Last week, in order to avoid a proxy fight with hedge fund Sandell Asset Management the company's largest shareholder with an 8.8% stake InfoSpace declared a special cash dividend of $6.30 a share, or $200 million total, to be paid before the end of May. It also reauthorized its $100 million share buyback program and agreed to appoint Sandell's managing director, Nick Graziano, to its board.

That payout's helping prop up the stock, but longer term it's the possibility of a sale of the business, either in parts or whole. InfoSpace just so happens to have some very lucrative assets, including $1 billion in nonoperating losses, known as NOLs, which can be used to offset or negate federal taxes as long as the company shows an operating profit.

"Management is clearly focused on extracting the maximum value of the company's assets, and all strategic options are on the table," says ThinkEquity's Barry. "If you look at the NOLs, the large remaining cash position post-dividend, some of the attractive markets that they're in, and some of the cash flow characteristics, you could argue that in a break-up scenario this thing is worth $35 a share."

That price would offer a mouthwatering 40% premium to InfoSpace's current level and, or course, make any concerns about the viability of its businesses a moot point.

The special dividend and the share buyback don't exactly telegraph that InfoSpace is focused on building its business. "They claim that they're creating shareholder value by doing those things, but I don't see how they're creating much of anything by giving money away," says Needham's May. "You create shareholder value by investing your cash, either by acquisitions or by investing in projects internally that help accelerate growth. But they're not reinvesting the money to help reinvigorate and re-accelerate the growth of the business. They're basically just kind of liquidating the company in a way."

Based on the share price, the market is betting on the assets. Good for them. The dilemma facing individual investors as opposed to the hedge-fund pros like Sandell is whether that same wager fits with their portfolios. For buy-and-hold types, investing is not gambling. They should probably just stay out of InfoSpace's orbit.