Keane: Connecting the dots

My friend asked me why am I still holding on to Keane (I use to work in Keane) stock. I was in New York and on cell phone, still I talked for about an hour (we also discussed google). I am personally excited about Keane. I don't believe that it will ever give 30% growth rates like Indian firms - WIPRO, Infosys (I use to work for infosys) or TCS. With 25% insider ownership, I am sure it is not an acquisition target. So, am I crazy? Well here is my theory on Keane

Let's go in history. Keane had a decentralized consulting model. In effect, it was a holding company with 50 small firms (offices) all over US. Each office took care of it's own hiring, training and local clients. They did have some national cost centers, but most of the business was at a local level. This worked very well during and before Y2K. Billing rates were high so the local office overhead as a percentage of total revenue was less. Clients liked personal attention during Y2K scare and employees didn't have to travel and still enjoy almost consulting lifestyle and pay.

After Y2K, Keane was not able to convert most of it's clients from Y2K projects to other high billing projects. This was due to two reasons. Due to depression, firms had liquidity crises and cut IT spending. On the other hand, Indian firms had shown the success of their model and were able to attract the clients by undercutting US firms like Keane. In this situation, accenture opened an Indian division, KPMG opened an office in China and years later India, while Keane stayed put with it's model. So, Accenture made most out of it and Keane fell back further.

They did acquire an Indian firm to start an indian operation, but it was never same. The indian operation became a cost center and they worked with US offices to get projects. US offices with revenue targets wanted to most of the work within their office. I still remember how in each quarterly meeting we should focus on our branch position based on revenue.

To be fair, inflexibility has also something to do with kind of people Keane hired, but that's another big discussion. So, with lowered revenue, these headoffices became a larger % of revenue resulting in Keane's profit margin falling to -3% to 3% range and revenue dropping from more than a billion to 6-700 million range.

Recently I read a news that Brian Keane mentioned during this trip to India that Keane plans to hire 5000 people in India. I also heard that in 2005, Keane hired WIPRO Senior executive Richard Garnick. Also, I saw some news about Keane merging their branches and cutting support staff. Also, there is indication that US and Indian staff are bidding on the project jointly, thus throwing the revenue based performance out of the window. Now when I connect these pieces of information, I think Keane is moving to the accenture model. Their operating margins will increase. It has been increasing recently. Please note any additional saving in cost is directly passed over to the net income after tax. When you compare with accenture Keane has higher revenue growth, slightly higher gross margin (2-3%) , but almost half operating margin (5% against 10%). This is the effect of all those local branch overheads and mostly US workforce. Now if the save any cost by using their India unit effectively and merging local branch offices, it will fall directly to bottomline.

As an example, if they improve their operating margins from 5 to 7.5. This 50% improvement will have a 50% improvement in net income so assuming same P/E(growth rate) 50% increase in revenue. If they cam come to 10% as accenture, their stock price should double.

So, why havn't analyst caught this. First, I am not sure how many analysts actively follow Keane. It's a boring firm. Also, Brian Keane's announcement was in India. Finally, after 5 years of bad management analyst don't believe that Brian gets up one day and decides that he will stop acting as a leech and work to improve performance. So, they are discounting this news. I believe otherwise. Next two quarter are expected to be key for Keane. I will closely monitor the performance and if there is no action, I will get out of the stock. sometime before June/July.

Recommendation: Buy under 12 for a pop to 18-20 in under a year.

Where to invest in 2006?

Before I start giving my picks, let me start by giving you an idea about the kind of investments that I look for. I would classify myself as a combination of growth and value based on the sector.

I am bullish about energy. I think I will be bullish about energy right till my retirement age (2040). I think firms providing oil exploration & drilling services (oil infrastructure) will have a banner year. With the demand of oil closing in on supply, there is a need to develop new oil fields. As the oils firms start increasing the capacity and developing new fields, these oil infrastructure firms will get the economic rent out of the whole chain of companies working to develop new fields. Next couple of years will be great for the current leaders. With time, new players will enter the market to make the industry profit more in line with normal economic profit. A couple of important points to look for in this sector are firms with low P/E, good management and high exploration investment.

I always like buying firm whose products and services are in demand and I think Oil services may be the ones for 2006. Where do I get the above logic. Well sometime back I was looking to buy a oil field with 14 wells in Midwest. The price was $5 million and oil was 45-50 then. Though there was a lot of oil underground, the field was not developed and half teh wells were not working. The current annual output was around 4000-5000 BPY. After including all the production cost and royalty payment, I was getting around $34/barrel Not with that kind of oil coming out, I couldn't sustain a 4 million debt to finance the field. So, I tried to find out if I can get other wells repaired or drill more wells. The owner said that all the repair/drilling guys are busy and unless you pay 50% premium there is a long wait. BTW, within 6 months, oil was 70 :) and has never been below 57 after that. That's another matter, but this experience got me thinking about the importance of oil infrastruture firms in current environment.

On the other end, as the oil price will increase, a whole lot of other sources of energy will become relatively cheaper - solar power, wind energy, oil from canadian sands and ethanol. I look to invest in leaders in their space.

Other than the energy stocks, I have a close eye on the comodities. I have not found something exciting, but if the prices drop, you can count me to pick up some bargains. I am gold pessimist and have been predicting a reduced return since gold reached 450. Current gold prices are 570, I like Buffet's waiting strategy. And in this huge worldwide financial market system, there are ample opportunities where you will feel comfortable if you wait.

I will also be looking for small health care firms that have or are close to acquiring new drug or drug delivery mechanism. I look for firms that already have revenues and use this new product as a stock price booster. So, I am not looking at one drug wonder.

Finally, I will look at investing in some technology stocks and international ADRs. I think emerging markets will outperform developed countries' stock market in 2006

My Current positions

March 12-16 2007:

This week I got rid of March Dow calls +DJWCR and bought and sold LEND for a 120% return (converted 415 to 927). I also lost around $30 day trading, but my last transaction FMT was a break out and I am up 185 on that as of now. I plan to sell FMT as soon as possible on Monday using trailing stop and/or stop loss

My final pick SAY was a replacement to KEA which is acquired in a reverse merger with a SFO firm.

My current holding:

Stocks: GOOG, GS, ASPV, DGX, SIRI, KEA, SAY, FMT
Options: +DJWDU
Funds: ADRE, FIEUX, FOSFX


March 03 2007:

This week I bought GOOG and GS

My current holding:

Stocks: GOOG, GS, ASPV, DGX, SIRI, KEA
Options: +DJWCR, +DJWDU
Funds: ADRE, FIEUX, FOSFX



Feb 2007:

I bought ASPV & DGX this month.

On the day when DOW dropped 400 points I bought 5 March calls +DJWCR and 15 April calls +DJWDU


Oct Dec 2006:

I had gone for vacation and work trip to India and Europe and put trailing trigger in Keane and PFE. My PFE holding was sold for 27+. So now I just own KEA ( about 30% of non retirement account). More than 70% of my non-retirement account is cash.

Recently, I also readjusted my retirement account. Now I have
14% in a Europe Index fund
14% in a International Index fund
10% in Emerging market Fund ( Region: 50% Asia, 36% Latin America Industry: 38% Information, 38% Manufacturing, 22% Service)
A small amount in Sirius radio (SIRI)

So, more than 60-70% of my investing money is in cash as of Dec 31st 2007

March 22nd:

GNBT jumped to $5 and split my 18% trailing to two order of half at 4.5 and other half at 15% trailing (activation around 4.15). Finally the share tanked and both my orders were filled at 4.20 and 4.00

Current Position:
1> KEA ($8.86): I plan to hold on to this one till June earning. That will be when I think the final part of my theory about Keane will unravel.
2> PFE ($36.5): I plan to hold on to this for now. There can be two reasons why I may sell it. I have to plan on getting rid of this sometime this year to compensate on GNBT and Keane profits.


March 13th:

My Keane Trailing stop was triggered at 13.98. I am still looking to an entry in MSFT.

Current Position:
1> GNBT ($0.94): Trailing stop 18% (Planning to change to 12-15% soon)
2> KEA ($8.86): I plan to hold on to this one till June earning. That will be when I think the final part of my theory about Keane will unravel.
3> PFE ($36.5): I plan to hold on to this for now. There can be two reasons why I may sell it. First to adjust the taxable profit from GNBT. Second, the stock market takes off and I feel health care will suffer at the expense of tech stocks


March 1st 2006:

As I have moved to London and may not be able to track the market, I have put a trailing stop on both all Shares of GNBT at 18%. and almost half the of remaining shares of KEA at 5%. I am also cutting my positions as recently I moved to London and would need some liquid cash in case of emergency.


Feb 2006

As of today I hold the following positions
1> GNBT : Avian flu & Spray insulin play. I bought at 0.94 and cut my position to half when the stock jumped to 1.45. I actually sold at 1.31 because of trailing stop that got triggered when the stock reached 1.4
2> KEA: Got the shares from ESPP. Avg price 8.86 cut the position to 3/4th recently using trailing stop (sold at 11.33)
3> PFE: Bought at 33-35 2-3 years back. Long term holding. I also hold a March put at 20.