Riverdeep rides the rapids and comes out on top

THE FRIDAY INTERVIEW/Barry O'Callaghan, Riverdeep executive chairman: With its share price recovering, Riverdeep's Barry O'Callaghan…

THE FRIDAY INTERVIEW/Barry O'Callaghan, Riverdeep executive chairman:With its share price recovering, Riverdeep's Barry O'Callaghan is optimistic about the future and says it has nothing to hide in the post-Enron environment. Mary Canniffe reports

There are no accounting issues to worry investors at education software company Riverdeep, according to executive chairman Barry O'Callaghan. With Riverdeep shares starting to recover from recent short selling by hedge funds, criticisms raised in Wall Street Journal articles answered and an 18 per cent increase in 2002 US federal budget for education, he is optimistic about the future.

"We have grown revenue exponentially, turned profitable and cashflow positive. We have a strong balance sheet with cash of $53 million [€61 million] and are one of the market-leaders in what we do. The outlook is very positive with a very strong educational environment in the US because the federal government is strongly committed to education," he says.

The hedge fund short sellers - they sold Riverdeep shares they did not own and then raised accounting issues about the company in the hope of driving the shares down so that they could buy them later to complete their own deals at a profit - have been routed.

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Riverdeep is an Irish-registered company but its main business is in the US, where it is quoted on the Nasdaq as well as in Dublin, and the powerful US Securities and Exchange Commission (SEC) has told the hedge funds to settle their positions. To do this they have to buy Riverdeep shares on the market, pushing up the price and creating a positive technical environment for Riverdeep shares. In the post-Enron market environment, Mr O'Callaghan is adamant that Riverdeep is an open and transparent company.

"There are no accounting issues here. We are fully compliant with US GAAP [accounting rules]. We have no off-balance-sheet items or special vehicles. We report more quickly than we have to and more often - quarterly as opposed to the required twice a year as a foreign-registered company. Our revenue is constantly audited by our auditors, Ernst & Young. Therefore our housekeeping is good. But we are always trying to improve," he says.

Asked why the company does not give a formal breakdown of its different revenue streams in its reported results, Mr O'Callaghan says its three revenue streams were not reported separately because they were not separately run divisions and were not audited separately. In its past two financial quarters Riverdeep has given additional revenue information to analysts in conference calls.

Issues about Riverdeep's accounting have only arisen since its acquisition of the Learning Company, which is only one of six acquisitions and is only a fraction of the company, he explains.

"A select group actively shorted the shares and tried to raise quite specific issues - maybe fairly in terms of the old Learning Company - to drive down the share price. But we did not buy the Learning Company, we bought specific assets, we did not buy receivables or inventory. We wanted selected assets highly synergistic to our business including the brand name. We did not want the cost base or to manage the Learning Company. We want to manage the assets we bought in a different way . . . We have been very transparent, we have provided the information about how the business works. These issues are not a weakness in our business," he comments.

Asked if Riverdeep made representations to the SEC about the short selling, he says the company had no involvement.

"Our business is to run the company and to beat projections," he says. But he adds that the positive technical position the shares are now in was "no more than we deserve" after being put in an undeserved negative position.

Questions raised in the Wall Street Journal about growing accounts receivables [money owed by buyers of its software] in its balance sheet indicated a misunderstanding of the business, he suggests. Average debtor days - the length of time it takes buyers to settle their bills - is 116 and it plans to bring this down to 100 by the end of 2002. This must be seen in terms of where its revenue comes from, Mr O'Callaghan stresses. Its growing direct sales business, where 60 employees sell to major schools districts (collections of schools) and a typical contract is worth several million dollars, currently accounts for about a quarter of revenue. Debtor days in this area can be up to 180, according to Mr O'Callaghan.

"These are public contracts. We do not get paid quickly but we always get paid and it is a very high-margin business at 85 to 90 per cent with no bad debts," he explains.

At the other end of the scale average debtor days in the consumer business - sales through retail outlets where the average sale is worth $20 and which accounts for another quarter of revenue - is about 30 to 45 days with lower gross margins of about 70 per cent, he says. In the middle are indirect sales through partnership arrangements, where debtor days are around 60, he says. "This is an important measure but it is not the negative they are making it," he comments.

Set up in 1995 as an offshoot of then majority shareholder Mr Pat McDonagh's CBT Systems (now Smartforce), Riverdeep, which specialises in electronic educational services, has come a very long way, even if the road has been somewhat bumpy. Floated on the Nasdaq and Dublin stock markets in March 2000 at $20 and €3.48 respectively, the shares jumped dramatically on their first day reaching $66.9 in New York and €9.20 in Dublin. The then market capitalisation of $1.8 billion was challenging for a company at an early stage of development with $32 million of accumulated losses and forecasting net losses "for the foreseeable future".

But this was the height of the dotcom bubble and companies with unrealistic valuations were soon to be brought back to earth. Riverdeep continued to build product and distribution both organically and by acquisition.

While the share price is now around $20 and the market capitalisation is just over 40 per cent of its top level, Riverdeep is a considerably broader, financially stronger and more viable operation much better suited to the post-Enron market environment. The company has just turned into profits and has dealt effectively with investor- relations issues. In the current calendar year Riverdeep expects to generate $200 million of revenue and profits of $50 million, Mr O'Callaghan says.

With $130 million of goodwill on its balance sheet, does he expect to have to make any significant impairment write-offs under new accounting rules, which require quarterly reviews of goodwill valuations?

"It is not our choice to leave it [the goodwill] sitting there. But we have seen no impairment and do not expect to; therefore it is not a problem," he comments.

With some 95 per cent of its business in the US market, what is Riverdeep's medium- to long-term strategy?

"The biggest opportunities are in the US where the Federal Government is committed to spending on education. It is where the infrastructure is - the schools are much better kitted out with computer laboratories, classroom personal computers and internet access than elsewhere. We have to ask ourselves why would we chase a market where we would need to be infrastructure providers as well," he says.

As infrastructure develops in Europe and the US market matures, Riverdeep sill looks at the costs of moving into markets such as the UK, he adds.

Now that it is profitable, the low Irish tax rate gives Riverdeep an earnings per share advantage over US companies. It plans to double employment at its Dublin development centre, where 100 of its 500 workforce are based, over the next three years. Transaction management, back-office administration and finance operations will remain in the US because most of its business is there.

The company has increased the depth of its management structure in recent years.

An executive committee ofseven is responsible for the day-to-day operation of the company and meets once a week, while an an operating committee of 18 meets once a quarter.

"We have a very structured management and operating environment for a young company.

"We are excited about the future but also conscious of managing for growth and putting the systems in place for that," Mr O'Callaghan comments.