Fundtech Ltd. (FNDT)

JMB21 (60.34) Submitted: 6/25/08 11:22 PM : Start Price: $14.47 FNDT Score: -1.63

MDP pick Fundtech looks good to me from both a fundamental and valuation perspective.
From a fundamental perspective, the first metric I generally look at is ROIC, which I believe is an indicator of economic moats. FNDT's ROIC is not stellar, but is 11% higher than the industry average, a positive indicator. My thesis is that this industry-beating ROIC comes from an economic moat based on switching costs. Once a company decides to use FNDT's products, it is painful to switch to another company. In this sense, FNDT is a bit like your bank. You might be able to find a bank with the same services and lower fees/higher money market rates, etc., but is the difference really worth the costs and hassle of switching? Often it is not. It is this logic that I think provides FNDT with a somewhat durable economic moat. Beyond industry-beating ROIC, FNDT shows strong sales, earnings, and equity growth (all in the teens). Perhaps most importanlty, FNDT's Free Cash Flow has grown at an enviable rate of 34% over the last 5 years. All these metrics lead me to believe that this is a company with at least one factor giving it a lasting competitive advantage, and with leadership capable of exploiting that economic advantage to generate cash.

From a valuation perspective, FNDT looks fairly cheap to me, but not as cheap as it looks to Bill Mann. One of the reasons that I find valuation to be more difficult than it appears is the wild variation between valuation models that are each developed by reasonable people. My valuation model indicates that the current share price accounts for about 16% annual earnings growth over the next decade, which falls between the analyst consensus of around 21% and the historical equity growth rate of 12.5%. To me, that says fairly valued to slightly undervalued. For a company as fundamentally strong as FNDT, I think it is sensible to abide by the old adage that it is better to buy a great company at a fair price than a lousy company at a cheap price.

Risk factors: Two big economic risk factors are FNDT's limited customer base, and competition from bigger firms. There is also some speculative risk based on FNDT's p/e of 33, but that is significantly lower than the industry average so I think speculative risk is minimal.

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