The

Digital River

(DRIV) - Get Report

growth story may not be flowing quite as freely as its fans would like to think.

The e-commerce company, whose shares have risen 27% over the pastmonth, trumpeted a 35% jump in revenue for 2002 in the headline of alate-January earnings release.

But short-sellers say that Digital River, which has made seven e-commerce acquisitions since the beginning of 2001, is masking a much lower organic growth rate through its serial acquisitions. Were it not for DigitalRiver's multiple acquisitions, the company's critics say its annual sales growth would be more like 10%.

In fact, say the skeptics, excluding the revenue from Digital River's single biggest client, sales to the company's 32,000 other customers appear to be falling on a year-over-year basis.

Thus Digital River, which last week traded at about 35 times thecompany's 2003 forecast of 36 cents in earnings per share, is overpriced, argues one short-seller. "At a 10% growth rate, it definitely shouldn't trade at 35 times earnings," says the short-seller. "It should trade at 15 times earnings," or about $5.40 per share.

On Friday, Digital River's shares fell $1.12 to close at $11.37.

Digital River, for its part, says short-sellers are misinterpretingcertain data in the company's filings with the

Securities and ExchangeCommission

.

"I don't think it's a matter of incorrect information," says Digital River's investor relations chief, Al Galgano. "It's a matter ofmisinterpreting the information."

Either way, the dispute over Digital River's revenue growth highlights the difficulty assessing the financial performance of roll-ups -- companies that regularly acquire other firms or their assets.

"If I can avoid serial acquirers, I would," says Charles Mulford,director of the DuPree Financial Analysis Lab at the Georgia Institute of Technology. "A company that does serial acquisitions should be assignedmore of a discount to factor in risk because of the problem you're talking about: 'What is the real growth of this company?' "

Dipping a Toe In

The latest bit of information short-sellers have jumped on to answer that question lies in Digital River's 10-K annual report for 2002, filed late last month. The company's business is providing outsourced e-commerce services such as digital downloading, Web site hosting and physical order fulfillment.

In the 10-K, Digital River supplies pro forma financial results -- that is, numbers restated as if acquisitions made throughout 2001 and 2002 had been completed by Jan. 1, 2001.

These approximations of same-store sales, says the anonymousshort-seller, indicate growth far below 35%. On a pro forma basis, Digital River's revenue would have gone from $73.9 million in 2001 to $79.7 million in 2002, according to the 10-K -- a 7.8% increase.

But that analysis is flawed, counters Digital River. The pro formanumbers overstate the operating performance of assets at the time they were acquired by Digital River, says Chief Financial Officer Carter Hicks.

For example, says Hicks, in February 2002 the company acquired assets of the eStores business from the bankrupt online commerce companyBeyond.com. But, he says, the 2001 revenue in the pro forma table includes revenue from all Beyond.com's operations, including government businessthat Digital River didn't buy.

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Furthermore, says Hicks, Digital River regularly acquires assets from troubled companies that are sliding. Thus, he says, the revenue the assets are generating when Digital River buys them is often lower than it was in prior months -- again, making the pro forma numbers for 2001 an overinflated representation of the assets' financial performance at themoment Digital River took charge.

To get a more accurate picture of Digital River's organic growth, Hicks says investors should elsewhere in the 2002 10-K: a disclosure about what percentage of Digital River's revenue has come from acquisitions. In its filing, the company says that 9% of its $77.8 million revenue in 2002 came from acquisitions made that year. In other words, the other 91% of 2002revenue, or $70.8 million, reflects the company's so-called organic base.

Since Digital River reported $57.8 million in sales the yearbefore, one might infer that the company's revenue grew 22% in 2002 -- well above the 8% growth suggested by the pro forma numbers.

Back to the Drawing Board

But that calculation exaggerates organic growth in 2002 by understating 2001 revenue, says the short-seller. The four assets acquired by Digital River in March, August, October and December -- acquisitions that amounted to 7% of the company's 2001 revenue -- had to be producing some sort ofrevenue before Digital River acquired them and started including theirresults in its 2001 revenue figures.

To find the appropriate 2001 figure, the short-seller refers to Digital River's 10-K for that year. In that filing, the company says its revenue would have been $66.1 million on a pro forma basis had that year'sacquisitions been made on Jan. 1. Because Digital River reportednon-acquired 2002 revenue of $70.8 million, the $66.1 million figure for 2001 implies organic revenue growth in 2002 of merely 7%.

The growth picture looks even weaker, says the short-seller, if onesubtracts out the revenue growth attributable to

Symantec

(SYMC) - Get Report

, the software firm that is by far Digital River's largest customer. Symantec, saysDigital River, accounted for 15% -- or $8.7 million -- of its reported 2001 revenue, and 23%, or $17.9 million, of 2002 revenue.

So, starting with the short-seller's revenue numbers from the past two years -- the $66.1 million in pro forma 2001 sales reported in that year's 10-K, plus the $70.8 million in non-acquired 2002 sales -- revenue fromcompanies other than Symantec declined from $57.4 million in 2001 to $52.9 million in 2002.

That apparent 8%

decline

in sales is alarming, particularly if one is wary of investing in a company so dependent on a major customer for sales. In general, the larger a share of a company's revenue for which a single customer is responsible, the greater bargaining power that customer has with its supplier.

"You're taking on a huge risk," says the short-seller. "All your growth is in one customer. All your eggs are in one basket. ... If that goes away, you've got huge negative growth."

Digital River's Galgano says that Symantec's growing share of thecompany's revenue shouldn't be viewed negatively as a greater dependence on Symantec, but positively as a sign of the companies' "deepeningrelationship."

And Galgano and Hicks say it's misguided to use the company's $66.1million pro forma revenue for 2001 as a baseline for judging 2002performance -- the approach that the short-seller took to arrive at such a bleak picture of Digital River's organic growth. Pro forma statements, the executives say, are useful when one is studying the combination of twogoing concerns. But Digital River's strategy, they say, is to acquiredistressed properties, and pro forma numbers in that context distort the company's performance.

So if the pro forma numbers aren't useful, what is? How can onedetermine, for example, how the businesses acquired by Digital River were performing when the company bought them? By looking at these acquisitions' financial statements, says Hicks.

Hicks acknowledges, however, that investors don't have access to the financial statements of the privately held companies from which DigitalRiver acquired assets in 2001. "We would, but you wouldn't," says Hicks.

Why, then, doesn't Digital River make this more accurate information publicly available? "It wouldn't be through an article that we would do it," says Hicks. "It would be a public disclosure."

Until such a disclosure takes place, Digital River remains murky.