Route1 (ROI.V) issued a press release today stating that its exclusive U.S. Government reseller, Qwest Communications, has not met one of the performance criteria of its three year exclusive contract, namely the guaranteed sale of 30,000 mobikey units and subscriptions to the Department of Homeland Security by the end of calendar 2009. This was to be the primary catalyst for the Company for the foreseeable future and a "tipping point" to cash flow and earnings. To date, the US Department of Homeland Security, has installed Route1's DEFIMNET platform in April of 2009 and has taken delivery of 5000 Mobikey devices and associated TruOffice subscriptions.
It is undetermined if and when the remaining 25,000 units will be delivered to DHS, although Route1 is confident that they will be procured during H1 2010 after some training and implementation issues are worked out.
In the meantime, although Route1 will maintain a distribution partnership with Qwest, it will no longer be an exclusive one, meaning that a new arrangement with Qwest will need to be negotiated. As well, the Company will need to, yet again, re-tool its sales and marketing strategies in order to adjust for the situation.
To very patient shareholders, this setback reduces the forecast substantially. It was felt that the initial 30,000 units would result in multiple re-orders by Qwest, representing 30,000 to 40,000 new annual orders each year of the three year contract. These potential orders are no longer likely, and what orders do come will come with potentially higher expenses as the Company brings on more direct and channel sales resources to compensate for the loss of this contract. As well, the Company was expecting recurring revenue to commence by the beginning of 2010. With an expected price point of between $16 and $18 per month, this represents approximately $5.0 million in lost revenue potential for 2010. More importantly, these revenue streams came with gross margins in excess of 80%.
As well, the Company is now sitting on a significant amount of inventory because it arranged for a line-of-credit in the fall to produce most, if not all, of 25,000 mobikeys in anticipation of the order that didn't materialize. There could be performance penalties associated with the financing which may result lower margins.
Considering that there are a little over 15,000 current users worldwide, the remainder of the "guaranteed" (according to the contract) Qwest order would have made Route1 solidly cash flow positive because the expected break-even mark is 30,000 total units. For the near-term, instead of generating cash, the company may find itself needing short-term working capital shored up, which means the company may need additional capital in order to attain delayed break-even. Total unit sales to break-even may also increase as the company invests in operational and sales and marketing resources that it did not originally budget.
The positive news is that the product is really strong with demand from governments worldwide, and DHS has not actually cancelled its order, it has simply delayed implementation. Analysts believe that the company will attain break-even during H2 2010. This is possible, but it will take a lot more effort and time. In addition, there is increased balance sheet risk.
In the meantime, the solid share price gains since April 2009 are likely to be eroded away. As well, future contract announcements will probably not generate as much speculative share movement as the Qwest announcement did during 2009. More investors are likely to be "from Missouri" on this stock and analysts are likely to slash earnings forecasts and share price targets.
Disclosure: I do not own shares of ROI or Qwest.