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Mark Cuban and Broadcast.com: The Multibillion Dollar Coup

July 06, 2011 | About:
John Emerson

John Emerson

142 followers
"Round about, round about, lo and behold! Reel away, reel away, Straw into gold!"-----

— From the Grimm's fairy tale "Rumpelstiltskin"

Long before there was Netflix (NFLX) or YouTube, there was Broadcast.com, the brainchild of Mark Cuban and his lesser known partner Todd Wagner. They were pioneers in the field of accessing streaming content via the Internet, and Cuban to his credit was able to parlay the notion into a billion-dollar fortune.

Cuban was more of a visionary than an operational genius; for practical purposes he brought streaming video to the Internet well before it was feasible. You see in the mid- to late-'90s high speed Internet was not yet well enough established to be useful in accessing video content to the masses. Dial-up worked well enough to listen to audio feeds but I can attest to fact that it was entirely worthless in watching any form of video.

I attempted to watch horse races via the Internet before broadband was ubiquitous and it amounted to watching a series of "freeze frames" which updated every several seconds. Similar to watching a series of pictures on the back of a deck of cards simulating a movie, only much slower and more cumbersome.

Fortunately for Cuban, the aforementioned reality never diminished his enthusiasm, salesmanship or vision. In the late 1990s, Mark Cuban and his partner Todd Wagner were successful in weaving straw into gold not once but twice during their brief tenure as the founders, majority owners and management of Broadcast.com.

Cuban and Wagner parlayed the insanity of the dot-com bubble with an innovative idea and more than a little bit of good fortune to become among the world's richest men, virtually overnight.

The History of Broadcast.com, Its IPO and the Yahoo (YHOO) Acquisition

This real life fairy tale began with the formation of Audionet.com in 1995 (the predecessor of Broadcast.com); it continued with the record-setting IPO of Broadcast.com in 1998 and culminated in 1999 when Yahoo assimilated Broadcast.com in a deal which was valued at $5.7 billion.

The story goes that Cuban and Wagner, both graduates of the University of Indiana, lamented the fact that after they graduated and moved away from Bloomington, they were no longer able to follow Hoosier basketball. Allegedly, that was their inspiration for creating universal audio content, so they could listen to their favorite team via the Internet.

The story is believable in light of the fact that Cuban later invested over a quarter billion of his mother lode on purchasing the Dallas Mavericks of the National Basketball Association. At the time the Mavericks were among the NBA's biggest doormats. No one who has ever watched his court-side antics during a Mavericks' game would ever question his status as one of the game's most ardent fans.

As was common during the Internet bubble, massively overvalued companies such as Yahoo did not pay for their acquisitions in cash; rather they used their bloated stock as currency. Yahoo issued the equivalent of $130 per share in Yahoo stock to the owners of Broadcast.com to fund the acquisition.

When Yahoo acquired Broadcast.com in 1999, the company had recorded approximately $100 million in revenue the prior year. That valued the company at 57 times revenues. In its brief history the company had never turned at profit. In fact, in the prior year to its acquisition Broadcast.com had lost millions of dollars.

The only reason that Broadcast.com had remained afloat until its IPO in 1998 was the original $1 million in capital which Cuban had supplied to get the business off the ground and more recently a private placement of $26 million that temporarily capitalized the company until the business could be IPOed.

Internet Madness



When Broadcast.com was taken public it had fewer than $7 million in revenues, $28 million in equity, and an accumulated deficit of of nearly $10 million dollars in its brief history. In reality, the company had little or no chance of achieving profitability in the foreseeable future. Nevertheless, the company IPOed at $18 in 1998 and before the market closed on its first day of trading, the stock had appreciated to $62 per share. Just like that, Cuban had a paper net worth of nearly $100 million; however, the much bigger hit was yet to come.

Jessie Livermore once said that the big money was made in the waiting, but Mr. Livermore never lived through the Internet bubble of the 1990s. The Internet bubble was a time when the big money was made by IPOing a dot com, then cashing in as many chips as possible before the air went out of the balloon.

To his credit, Mark Cuban recognized that fact and he wasted little time in locking in the counterfeit nature of his new Yahoo stock which had a market value in excess of $1 billion.

"In the wake of the Yahoo sale, Cuban had other things on his mind than Broadcast.com's fate. He and Wagner went to Goldman Sachs (GS) and had the investment bank structure a collar — selling calls and buying puts on Yahoo stock — that locked in the value of their paper profits."

Just how crazy was the Internet bubble and the $5.7 billion valuation which was assigned to Broadcast.com? Netflix, which eventually leveraged Cuban's dream of streaming video into a profitable business, has retained earnings of $275 million as of its last balance sheet. NFLX trades at around 6.4 times its trailing revenues, with a forward PE multiple of around 44 times its current price — hardly a value proposition unless one compares those figures with the value assigned to Broadcast.com by Yahoo in 1999. Yahoo paid 57 times the trailing revenues for company with a negative PE outlook for the foreseeable future.

Conclusion

I doubt that Mark Cuban will be giving any value lectures to the students at Columbia Business School in the near future; however, he will likely go down in history as one of the world's greatest opportunists. Few men or women have ever gamed a system better than Mr. Cuban. He remains the consummate purveyor of the "Dot Com" model for creating wealth, and for that he deserves at least a modicum of credit.

About the author:

John Emerson
I have been of student of value investing since the mid 1990s. I have continued to read and study value theory on an ongoing basis. My investment philosophy most closely resembles Walter Schloss although I employ considerably less diversification. I also pattern my style after Buffett's early investment career when he was able to purchase shares of tiny companies.

Rating: 3.6/5 (17 votes)

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