Volume 5, No. 1, Winter 2000

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Business Transactions: Preview Systems, Inc.

Preview Systems, Inc.
1601 South DeAnza Boulevard, Suite 100
Cupertino, CA 95014

Business Description
This company develops and markets an Internet-based infrastructure solution that enables networks for the electronic distribution and licensing of digital goods. Digital goods are products such as software, music, images, video and documents that can be produced, delivered and licensed electronically.

Preview Systems is fairly typical of an Initial Public Offering (IPO) seen in the marketplace in the last several years. They have been in business for four years; of course they have no earnings to date and do not anticipate any in the next two years, and although sales have grown to $3.48 million, revenues are still relatively meager. The stock price soared from $21.00, the offer price, to $83.00 in mid-December, and in January, the price has stabilized between $50.00 and $60.00 per share, more than doubling their market value from the going out price of $21.00.

Why is this company, as many other high-tech IPOs, so sought after? First, it is at the cutting edge of E-commerce. It appears that publishers and distributors of digital goods have accepted the fact that goods and services will be sold over the Internet. Widespread market acceptance of selling goods over the Internet makes significant growth possible at Preview Systems. With significant growth possible, the theory that strong profitability will follow should hold true.

Can Preview Systems, Inc. support this growth? Here is what the prospective investor should look at in making a decision.

• Make sure you understand the product concept and where the company is headed. This may take some time, as descriptions of what these high-tech companies make, sell, or distribute is not easily understood.
• Make sure the company has the ability to develop relationships with other businesses. This is critical to ensure growth for most new high-tech companies.
• Determine where the competition is relative to the company you are looking at. Is the technology easily acquired? Do they have any patents?
• Determine if management has the experience and competence to bring the product to market.
• Determine if the company may need to raise additional funds in the future, as this could call for dilution and reduce the value of your shares.
• Lastly, if all the above elements are generally positive, check to see if the value of the stock and the stock multiple are achievable both from an earnings and revenue standpoint.

Let's take Preview Systems, Inc. (PSI) as an example. If PSI is trading at $55.00 per share, this means the company has a market cap of $867,185,000. If you assume an after-tax multiple of 25 (S&P average is 23), then the company must be able to earn $35,000,000 on sales of roughly $250,000,000, assuming 15% profit margins in the next four to five years.

If you believe PSI can achieve these assumptions, then $55.00 per share is a fair price to pay for a share of stock. By the same token, if you believe the earnings will be higher or lower, the price per share should change commensurately.