Teradata Corp. (TDC)

NCR Corp. (originally National Cash Register) is a leading manufacturer of automated teller machines. The company also makes other retail and financial electronics such as point-of sale terminals and bar code scanners. On September 30th, NCR will spin off its Teradata data warehousing business. This, then, qualifies as a so-called second generation spin-off, as NCR was itself spun off from AT&T in 1996. Teradata’s flagship product is its Teradata relational database management system, and it also sells analytical applications that assist in performing all aspects of data mining. The company’s customers include some of the largest companies in the world, including Wal-Mart, which runs its central inventory on a Teradata system.

The field of data mining and “business intelligence” has grown rapidly over the past decade. Financial institutions, government agencies, marketing firms and other organizations use data warehouses to answer an endless number of inquiries. Analysis can range from the most general and straightforward of inquiries, such as what sales totaled in the previous quarter, to the most detailed or seemingly inconsequential of inquiries. Teradata cites one of its customers, Warner Home Video, which sifts through literally over a trillion pieces of data in an attempt to accurately estimate demand for its movie titles. Without question, the accumulation of data and the need to constantly improve analytical capabilities connected to this data will continue to increase demand for Teradata and the entire data warehousing industry.

When examining the financial statements of NCR and Teradata, it becomes readily apparent that this spin-off is a case in which the higher margin, higher-growth business is being divested. For example, post-spin NCR’s operating margins are under seven percent; while Teradata’s operating margins are far superior at over 20 percent.

Perhaps the most impressive aspect of Teradata’s historical financial results is the growth of its return-on-assets and return-on-equity, which are both of an unusually high order. In 2002, Teradata’s ROA was 7.3 percent and its ROE was 13.8 percent; last year, these figures had grown to 19.6 percent and 33.2 percent, respectively. The growth in these figures is due to the company’s increasing profit margins, which reflect the inherent economies of scale that most software companies enjoy. Its fixed costs are low, such that any incremental sales of its software applications directly result in earnings.

From a valuation standpoint, Teradata appears to be priced by the public market at multiples well below its peers. At its current when-issued trading price, for example, Teradata is trading at an enterprise value-to-EBTIDA multiple of just 11.3x, while competitors Network Appliance Inc., F5Networks Inc., and Oracle Corp. trade at 15.6x – 30.2x enterprise value to- EBITDA.

On the basis of enterprise value-to-EBITDA, the lowest comparable multiple of 15.6x is 38 percent higher than Teradata’s multiple of 11.3x.

In conclusion, given the continued prospects for growth in the data warehousing industry, Teradata’s remarkably high ROE and ROA and its valuation by the public market compared to its peers, this spin-off appears to have a sufficient risk/reward profile and its shares are recommended for purchase.