On Friday, October 30, artnet (Frankfurt: AYD) released its nine months’ 2009 financial statements. The message from CEO Hans Neuendorf was somber – “given the present economic climate, we believe a net loss for the fiscal 2009 is inevitable.” In fact, the loss is already there based on the nine months report, and apparently artnet’s management does not expect the fourth quarter to compensate for the losses incurred so far this year.
The change in fortune is noteworthy – in the first nine months of 2008, artnet made a net profit of USD 2 million on sales of USD 13.5 million. For the same period of 2009, the company went in the red by USD 200,000 on declining sales of USD 12.6 million. When we profiled artnet in our April 2009 newsletter, we noted that the firm had elected to jump on three parallel investment projects in the midst of a market decline. Very much like Gagosian Gallery, artnet chose to expand in all directions when most of the players in the art industry were licking their wounds and trying to keep their ships afloat. This bold contrarian strategy centered on expanding into France, building up a decorative arts price database and making a big bet on online auctions. The strategy led to an 11% increase in personnel and a significant diversion of management’s time to the auctions business segment. So far, this has generated USD 735,497 in sales, or just under 6% of artnet’s total revenues. When we analyzed artnet’s 2008 year-end financial statements this past April, we stated that the online auctions segment must eventually bring 10% or more of total revenue in order to be considered a success.
We believe Q4 2009 remains crucial when it comes to determining whether the online auctions strategy is paying off (i.e., compensating for shrinking advertising revenue and creating a new growth opportunity for artnet). Aside from our concern about profitability (see below), we will withhold judgment on the success or failure of the online auctions expansion until artnet publishes its full-year 2009 financial report.
It is imperative that artnet either sees success with its expansion or takes action to adjust its business model. Perhaps, the quiet period after the 2009/2010 auction season (summer 2010) will be the ideal decision time. The reason for this urgency is that as artnet has experimented with expansion, the firm’s business model has changed from that of a modestly growing cash cow to one of a challenged firm in transition sandwiched between negative cash flow from operations (negative USD 500,000 in nine months of 2009 versus positive USD 700,000 for the same period in 2008) and a quickly melting cash cushion – artnet’s cash position has fallen from USD 4.1 million to USD 3 million (by 25%) in just nine months. Another USD 500,000 in cash has been consumed by investment activities.
This burn rate clearly made artnet revisit the scale of its investment plans – its capital expenditure program was reduced by almost 50% over the same period of 2008.
So far, artnet remains a strong going concern. It has no leverage and enjoys strong cash flows from its core price database and gallery network offering. With USD 3 million in cash, the firm can afford to experiment with new growth opportunities for some time, although its segment reporting does reveal some troubling signs.
As we can see on page 16 of artnet’s disclosure, three out of its four business segments are profitable, with the Price Database even increasing its pre-tax profitability both in absolute terms (it grew by 26% to EUR 950,000 for nine months of 2009) and relative terms (growth from a 21.3% to 26.3% margin for nine months of 2009 compared to the same period of 2008). It is the so-called “Other” segment that remains a source of growing concern. This segment, which includes all of artnet’s magazines and online auctions, generated EUR 2.4 million in losses in the first nine months of the year, exceeding combined profitability of the three core segments and plunging artnet into a net loss for the period. This loss widened by 50% from the same period of 2008, which creates a rather obvious dilemma for the company. artnet’s management must either find a way to reduce or ideally eliminate this loss through increased online auction revenues and rebuilding the advertising base for its magazines, or it may have to unwind some, perhaps even most of its “Other” segment in 2010.
