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Spin Doctors

Consider taking this compact disc company's stock for a spin.

The company: Zomax Optical Media Inc. in Plymouth, Minnesota, was incorporated in February 1996 as the successor to Zomax Optical Media Limited Partnership, founded in 1993. The company is a full-service supplier of compact discs (CDs) and computer diskettes and offers a complement of related services. Zomax recently completed a $9.3 million initial public offering (IPO).

Markets: Zomax provides software publishers, computer manufacturers, recording studios and other producers of multimedia products with a wide variety of production, packaging and distribution services. Customers include Microsoft, Compaq, John Wiley & Sons and Sega, among others. Estimates vary as to the total size of the CD market; however, the pace of growth in the CD-ROM market has been explosive: Industry sources estimate shipments of CD-ROMs quintupled over the last few years and could double or triple again by the year 2000.

The CD audio market, which is by far the largest segment of the CD market in terms of unit sales, while soft in 1996, has grown more than 10 percent per year compounded over the past five years.

The Sizzle: Despite being a small player in a very large market, Zomax has established itself as an important supplier, particularly in the high-quality, full-service segment of the industry. The company has accomplished this while rapidly increasing revenues and earnings.

The Risks: Pricing pressures in the CD-ROM market continue to affect companies such as Zomax. The risk is that Zomax will not be able to offset pricing pressures with higher volumes. To date, however, Zomax has been successful in accomplishing these feats.

Historical Financial Performance: Except for its first quarter of operation in 1993, Zomax has been profitable every quarter. The expansion in Zomax's business during 1996 was broadbased. In particular, sales to Gateway 2000 helped revenues grow from about 16 percent in 1995 to near 25 percent in 1996. In addition, gross margins increased significantly because of a reduction in outsourcing.

Projected Financial Performance: Our firm expects Zomax's revenues to be in the $28 million to
$30 million range this year and increase to $40 million in 1998. We forecast earnings per share to reach $0.47 this year and $0.71 in 1998, after taxes and taking into account warrants or other instruments that could be converted into common shares. Our estimates assume much of this growth will be achieved internally, but acquisitions of independent CD or diskette manufacturers are also a factor in our revenue projections.

We believe the company's shares are undervalued at current prices and that a multiple of 15 to 20 times projected earnings would be a reasonable expectation for a company with the growth potential of Zomax.

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This article was originally published in the May 1997 print edition of Entrepreneur with the headline: Spin Doctors.

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