Description

Overview

Buying EPRE ($6.00) and shorting SWBD ($12.90) represents a compelling arbitrage opportunity. EPRE currently owns 9.8M shares of SWBD (52% of the company) equating to a value of $126.4M. Additionally, EPRE has $46M of unconsolidated cash and no debt. Adding the value of the SWBD holding and the cash yields a value of $172.5M or $36M in excess of EPRE’s current market cap. Put simply, the value of EPRE liquid marketable securities as well as unconsolidated cash on the balance sheet totaled $7.63/share with the stock trading at $6/share. By buying EPRE and shorting the proportional amount of SWBD, and investor can effectively fully hedge out the SWBD value and get PAID $1.63 to acquire EPRE. Below, I also detail the positive fundamentals of the businesses, and the increasing likelihood of a SWBD take-out, thereby monetizing EPRE’s holding and correcting this anomaly. Even without near-term monetization, the spread/ratio is at an all-time low. If the spread were to revert to its one year average, it would provide an investor with a significant return.

The Math

1.) Cash and Marketable Securities as of 6/30/03:
- Unconsolidated EPRE cash including restricted cash*: $46.10
- SWBD cash including restricted cash: $50.40
- Total Cash and Marketable Securities $96.50

2.) EPRE/SWBD Holdings Valuation
- Shares Ownership of SWBD: 9.8M shrs
- Price of SWBD on 09/08/03: $12.90
- Value of SWBD equity Stake: $126.4 (9.8M * $12.90)
- Value of liquid assets ex-SWBD cash: $172.50 ($126.4 +$46.10)

- $ Equivalent/share: $7.63 ($172.5 / 22.6M shrs)
- EPRE current stock price $6.00
- Discount to current asset value: 21.4%

3.) Take-Out Scenario of SWBD
- Monetized assets ex-SWBD cash + 20% premium $197.84
- $ Equivalent/share $8.73

To set this position up, one would short .43 shares of SWBD for each share of EPRE purchased. (9.8M shares of SWBD owned / 22.6M share float in EPRE). Doing this, one fully hedges out SWBD stake.

*Because EPRE owns 52% stake in SWBD, cash is consolidated. Digging into 10Q allows you to find unconsolidated EPRE cash to avoid double-counting in the valuation.

Company Overview
ePresence, Inc. is a consulting and systems integration company. It has two segments, services and switchboard. Through its services segment, the Company offers consulting and systems integration services to help companies reduce cost, enhance security, improve service and increase revenues. Switchboard provides Web-hosted directory technologies and customized yellow pages platforms to yellow pages publishers, newspaper publishers and Internet portals. Switchboard operations are consolidated under ePresence revenue as the company owns 52% of ("SWBD") or 9.8mm shares.

Company Data Points
- Business at the Switchboard subsidiary which consists mainly of merchant listings for yellow pages and AOL (47% of business in 6/30 Quarter came from AOL) grew in excess of 99% y-o-y for Q2'03 due to lower amortization expense from directory agreement with AOL and increased revenue from Bellsouth
- IT services business which consists of primarily Security and Identity Management (SIM) solutions was down y-o-y 52% to $4.3mm due to exiting of German and UK operations offset by increased revenue from remote access managed services
- During Q2'03 the IT services business won two new customer engagements from Cognos and Ventiv added to existing client base of ADP, Covance, GE, GM, Microsoft, SC Johnson, The Hartford Financial Services, NYT, US Department of HHS, Unilever, Verizon and Viacom
- Also strengthened relationship with IBM by offering Tivoli security and identity management software in its SIM solution for its consulting and system integration services
- Recently hired SG Cowen as its financial advisor to evaluate alternatives for shareholders with regards to the service business in lieu of continued economic weakness and IT spending slowdown - and/or potential asset sales (including SWBD stake)
- recent upturn in reported IT spending from companies especially in VPN spending has lifted the businesses of other companies such as WEBM, DCTM, VIGN, etc.
- New legislative initiatives, such as the Sarbanes-Oxley Act, HIPAA (Health Insurance Portability and Accountability Act) and the Patriot Act, have moved companies to better monitor and organize their document and record management and retrieval systems, AMR Research director Jim Murphy told CRMDaily.com. "There is that urgency around content management that is driving demand. It is a real motivation for spending - driving performance for content managing companies
- Company focusing on Remote Access Management product as wireless applications and VPN spending grows

Risks:
- IT business is unable to survive as a stand alone entity ex-SWBD
- Loss of major customer such as AOL for SWBD and likely consequential negative consolidated cash flow for EPRE
- no strategic alternatives and/or pick up in U.S. IT spending

Catalyst

- Education of this anomaly
- Monetization of SWBD stake
- Acquisition of SWBD by third party competitor or complimentary player to spur growth in services business and/or improvement in IT spending environment as well as additional adoption of SIM throughout the industry