UP NEXT:
- HT3 Monthly Data Call: Monday morning (3/1) @ 10AM ET (WEBCAST: HERE, ADD TO CALENDAR: HERE, FULL CALL DETAILS: HERE). HT3 is our 30-min monthly data update & corresponding thesis refresh call. On this episode we will tackle ZEN, ZM, BIGC, and PLTR. As we saw from last week’s H-TED (HERE), the demand environment is off to a strong start in 2021. Stocks in the sector aren’t recently reacting well to good news, which makes tracking data and the extent of beat/raise even more crucial. ZM will report Monday, for example, and we will present our latest Transactions tracker, as well as active usage of Zoom and competitors across recent months. ZEN is another we will feature. Based on what ZEN reported for 4Q20 EPS, we would have thought the stock would be nicely over $200 by now and still trading at a discount to peers. Is that an opportunity? Is the outlook still strong? We went back to the well, refreshed the data and conducted a field notes survey from Zendesk web integration specialists + developers. We will also share data on PLTR and BIGC, both equity opportunities from current levels to align with our active calls. For a sample of what to expect, check out our February 2021 edition (HERE), which featured BIGC, TWLO, NET, FROG, ZI, and MDLA.
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WISH LISTS LONG / SHORT: ccx (Churchill capital corp / skillsoft)
Our Wish List is a curiosity process…a method for brainstorming new ideas.
(Note: for Part 1 of our CCX work, see our prior HT-S HERE).
SPAC It! In the second scene of Monty Python’s the Life of Brian, a woman chastises her husband “stop picking your nose, leave it alone.” In the case of a newborn SPAC called CCX, we can’t leave it alone.
For CCX, the forecasted revenue acceleration of recently acquired Global Knowledge (‘GK’) is an important puzzle piece underpinning estimates CCX has shown Wall Street. Specifically, GK shows revenue growing from $111MM in 2019 to $133MM in 2020, to $174MM in 2021, a big acceleration on absolute dollars and % basis.
This made us curious. If you owned a ‘mostly’ software business in 2020 that was $133MM in revenue growing to $174MM by 2021, would you have sold it for ~$200MM?
C’mon. There is a catch here.
And then we found it. According to Moody’s, GK “net revenue for the last twelve-month period ended September 30, 2014 was approximately $345 million.” Translation: GK has seen ~2/3rd of revenue evaporate in the last six years…and, furthermore, we found that two rounds of an M&A banker trying to sell GK ended with no bidders. None.
When we run the math on the 2022 forecasts from CCX using the transition from old Skillsoft to newer Percipio plus GK (full math below), we find a missing hole of $50-75MM of revenue to achieve management’s targets. Investors are supposed to presume those dollars come from the sustained growth of GK but CCX was careful not to show a forecast for GK for 2022 (lawsuits, and such).
It means that to achieve the 2022 estimates management has shown, bakes in 1-2 more acquisitions that will cost leverage or equity cash.
What did we learn? Both GK and Skillsoft are assets with revenue in decline on a lookback basis, and one is a distressed asset (Skillsoft). We learned that when the investing public buys shares in CCX not only do the Michael Klein ~$175M warrants kick in (above ~$12.50), but the co is also assuming they can get more M&A done in order to hit the revenue and EBITDA targets they have displayed for 2022. Cost of the M&A? Borne by shareholders either via straight dilution or from debt which impairs the fair value EV/EBITDA calculation.
Oh boy, what this team must think of the investing public…
Math details for those who like details (or math):
- $645MM revenue for CCX in 2020 breaks down to $190MM Percipio, $133MM GK, and $322MM for old Skillsoft. We know that $6.5MM of business is new to Percipio which implies the company transitioned about $85MM to ‘P’ from old ‘SS’ in 2020, an acceleration of the transition relative to 2019 (and assuming all $6.5MM of new business was signed in 2020). Rolling this into 2021 gets us ~$305MM for P in 2021. Assuming $10MM incremental net new (which is aggressive) implies CCX will transition $95MM over from old SS in 2021. On the flip side you subtract $95MM from old SS in 2021. It looks like old SS also lost $15-20MM of revenue from 2019 to 2020. We will assume $15MM of that continues per year given the product itself is underwhelming to put it nicely, they are a share donor, and once clients have to transition to something new they at least look at what else is out there. The math gets $690MM revenue in 2021, which equals the high end of guidance if, big IF, GK hits the 30% acceleration to $174MM which the company has guided.
- But when we look into 2022 and run the same/similar math it implies that GK must go from $174MM revenue to $250MM of revenue. Hands up all those who don’t believe that will ever happen! Which means in these projections there is already an embedded $50-55MM of revenue via acquisition by 2022 which will cost ~$150MM if they buy crap, but more like $250-$500MM if they buy a VC-backed entity. [What management are trying to do is mainly transition old SS to P by year end 2023 which turns the business from decline into stability, as P had 100% NRR in 2020.]
Bottom line on CCX: Bulls can say that CCX is acquiring an iconic brand with 70% of the F1k for 10-11x forward EBITDA (2022) and it should trade at 15-20x EBITDA (5x sales). Skillsoft is moving product from loser to winner (Percipio), making acquisitions, and firing more employees to reduce costs. Bulls may diagnose that Skillsoft’s historical problems included 1) a cessation of growth 2) beginning of decline, 3) multiple unsuccessful takeovers by PE, 4) weak management, and 5) unsustainable leverage that forced bad decisions. CCX will argue that new management will stop the decline. At least we can agree that they have eliminated the PE overhang, and significantly reduced net leverage.
What we will say is that Percipio is a band-aid. It is always easiest to transfer the most loyal customers to a new platform and show 100% NRR (should be better) on the new shiny object. It is much more difficult to save those customers with half a foot out the door due to Skillsoft’s long term atrophy. Evaluating a new platform (Percipio) is reason enough to look at what is out there in the market…which already seems to not perfectly fit in CCX’ favor as Skillsoft revenue overall has declined significantly since the start of the Percipio transition. All this even without casting doubt on the sudden acceleration of GK into 2021. As a side note, Skillsoft & GK are old companies. Systems are broken and don’t work and need fresh investment. Skillsoft apparently played the ‘offshore jobs’ game a bit too heavily and employees on public forums complain that systems are broken, and no internal employees know how to fix them. Further, the employees are demoralized, and unlikely to ‘rally’ in the hopes of making Michael Klein, the banker, another $175MM.
We tried to see the bull case here. You really have to think 20x EBITDA for an iconic brand which would imply a $20 stock even with another $500MM in leverage. People might go for a 20x EBITDA argument if the business stops organically declining and inflects to true (non-accounting, non-M&A) growth. In theory. For now, 5x EBITDA ($3) is a good price with the hope it gets to 8x EBITDA ($7).
HIGHLIGHTS & QUESTIONS FROM THE WEEK:
- Relevant Tickers: every company in Tech that has ever made an acquisition. Now this (Blank-Check Buyers Set Sights on Corporate Spinouts as Next Prey), this is really bullish. Every company that has bought something – even as recently as Twilio/Segment which closed in late 2020 – has an opportunity to participate. Dear Corporate Business Development Leader: take out every acquisition that has ever been made, select the largest that turned into junk post acquisition, and sell them for big ROI to the SPACs. First, you prove to the world that whatever silly acquisition price you paid was well worth it (cheers, McDermott). Second, don’t worry if you still want to own the functionality or core of the asset. SPACs are desperate: too much money chasing too few opportunities. You can structure the deal any way you want, so long as the SPAC owners keep their hundreds of millions of dollars in warrants for essentially acting as bad bankers. Third, even better, when the SPAC fails you can buy back this asset at pennies on the dollar. Publicly traded companies should be thinking of SPACs as a great way to raise cash without dilution and with the optionality of getting the product back at a later date for free anyway. Period.
- Relevant Tickers: ZM (Bench Long), TWLO (Best Ideas Long), FIVN. It could be amazing to see ZM make a big splash and buy into the TWLO Contact Center space or use big dollars to create a large JV newco between the two companies to partner and grow FLEX. But if ZM is serious about the contact center…then they are already very late. The game is not over but there are already many players with fast growing adoption and rich products. It might be necessary to buy a major player and evolve the product, which is not Eric’s strong suite. What product/market should ZM do next? Pretty much anything that CSCO does, Eric can do better. Right? First, he created a better WebEx. Next, he is disrupting the VoIP phone market which will transition to Zoom Phone, and CSCO is one of the top two legacy market share owners who stand to lose big in this area. Zoom’s next product should be better / cheaper / faster / more next gen software based routing/switching or security, or application monitoring, or almost anything Cisco does. Eric, it seems, was built to take CSCO apart brick by brick.
- Relevant Ticker: TSMC. Great to see TSM’s business model continuing to layer in growth after growth. TSMC is a study in long term, gradual, market penetration of a massive, growing market. TSMC’s approach is still the best way to manufacture electronic components, and is still disrupting the market almost 35 years after it was founded. Amazingly, TSMC is still under-penetrated in the overall semiconductor market with less than 20% market share based on measuring TSMC’s $45B of revenue as a representative of 80-90% of the COGS of their customers in the broader ~$500B semiconductor market (per Gartner). The super leading edge creates an important growth umbrella for TSMC: leading edge nodes offer customers a chance to add major new functionality or significantly reduce cost per unit (cost per function). Adoption of the leading edge node means TSMC has won sticky business that will mature in volume with TSMC over time. Furthermore, the new nodes are always at a premium price, which creates a weighted average ASP increase for TSMC bolstering the average wafer growth for the year. It is a fantastic business model and generates consistent cash flows and dividends.
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POSITION MONITOR:
Snapshot view of our deep dive calls and Salient Viewpoints plus updates from the week:
- Qualtrics (XM) Best Ideas Long. We presented our new Best Idea Black Book on Wednesday (HERE). Key debates since the presentation have centered around the sustainability of the adoption curve and the factors surrounding the company's divorce with SAP.
- ZoomInfo (ZI) Best Ideas Short. Please see our post-EPS note: ZI | Henry Takes the Hindmost, Crushes 4Q20.
- BigCommerce (BIGC) Best Ideas Long. Please see our note post-EPS note: BIGC | The Little Engine Keeps Chugging.
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Innovation in equity research.
Ami Joseph
Managing Director
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Yosef Vaitsblit
Director
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