Death of VARing explained

THERE HAS BEEN much news in the IT reselling market since the dust settled on Morse's final results (31/8) - a profit warning from Computerland, the ongoing acquisition of Fayrewood, Horizon reporting an 18% sales fall - all suggest more structural change.

At final results Morse dismissed its reselling activities as ‘dead'.

However, this summation should be seen in the light of its deteriorating results (reselling EBITA down 83% incrementally) and aim to secure a re-rating as an IT application service firm.

Morse final results illustrated that it had effectively kitchen sunk the year, in our view, more so than it executed a successful turnaround.

While we increased 2006F PBT by 2% following results, given the risks in the non-core infrastructure business and results today from Axon showing operating margin pressure, our recommendation is unchanged - investors should await further evidence that Morse is on a firm footing.

What is driving the change?

We attributed Morse's transition to downsizing the cost base and tapping into a strengthening SAP market, but, in our view, there remains much to do.

We have long endorsed the strategic direction, our concerns are simply; (1) timing - transitions always take twice as long as than first envisaged and (2) the valuation is up with events.

Looking at our margin assumptions (below) Europe remains weak and characterised by a hotch-potch of different offerings (services from 34% to 53%), there is little evidence that the Technology division has been bottomed, or indeed that Management Consultancy can span new vertical markets. To this, we now add that the SAP market looks to offer less operational leverage due to wage inflation thereby making for an uncertain outlook for Business consultancy.

The anatomy of the new Morse

Technology Integration (2006F: Sales £150m, EBITA £1.1m). This is the classic heart of Morse where it sells mostly server hardware (IBM 35%, Sun 35%, HP 16%).

Management consultancy (2006F: Sales £12.8m, EBITA £4.2m). Consultants to the investment management industry like West LB and GAM.

Europe (2006F: Sales £160.0m, EBITA £5.4m). These are the ex-UK geographies of France Germany, Spain and Ireland, where services span 34% to 53% of revenue.

Business consultancy (2006F: Sales £68.3m, EBITA £6.1m). This is the Diagonal, Delphis and staffer Marshall Wilkins divisions.

Software (2006F: Sales £5m, EBITA -£0.3m). Mobile banking applications with partner Link and the Wisdom document management group.

George O'Connor is principal tech analyst at Shorecap µ