Happy Sunday ☀️
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This week’s special: One company has been grabbing my attention for a while due to its astronomical valuation (no, not Tesla). I took a closer look at the company from different angles to see if there is any way to justify its lofty price tag. At the end, I explain which position I took and why.
Before we dive in, allow me to ask of you: If you find this newsletter useful or if it has provided valuable insights to you, please forward it to two people who may find it interesting as well 🙏.
Let’s go.
NEWS | OPPORTUNITIES | BITES
Michael Burry (from the movie ‘The Big Short’) revealed a few weeks back that he (his fund) has a $530 million short bet against Tesla. CNBC, list of Burry’s positions.
Tesla’s valuation is currently about 170x its annual profits (LTM EBITDA) and competition is looming as it seems like the #1 priority on the mind of every car-company’s CEO is to bring out a decent competitive electric vehicle.
Meanwhile, just three days after one of Tesla’s $129,900 Model S Plaid cars was delivered, the car caught fire (picture above) while the owner was driving. More here.
A federal court dismissed the FTC’s antitrust suit against Facebook, which could have resulted in Facebook having to divest Instagram and WhatsApp. Facebook shares rose more than 4% afterwards, making it the 5th company whose market capitalization has risen above $1 trillion. More here.
Robinhood was fined $70 million in the largest financial penalty ever ordered by FINRA (Financial Industry Regulatory Authority). Wrong-doings include sharing false or misleading information with users, damages from systems outages in March 2020, and approving option trading for users for whom it was not appropriate. More here. Also, Robinhood’s S-1 was published this week.
Didi, the Chinese ride-hailing giant, went public in the US this week raising $4.4 billion at a valuation of $73 billion. As a reference, Uber has an enterprise value of ca. $100 billion. More here. Didi’s share price fell 10% on Friday (2nd day of trading) after Chinese regulators launched a cybersecurity investigation and prohibited the company from registering new users. More here.
IBM shares fell 5% on Friday after it announced that its president Jim Whitehurst will step down, just 14 months after taking the job. More here.
GitHub and OpenAI launched Copilot, a new AI tool that generates its own code. Copilot analyzes the code a developer has already written and anticipates and generates new matching code in real time. More here.
Duolingo, the language learning platform has filed for IPO. Its last valuation was $2.4 billion. TechCrunch has more here.
Say hello to Bulletin, Facebook’s newly launched newsletter service that will compete with Substack, Ghost, Twitter’s Revu and other services. More here.
Tom Brady and Gisele Bündchen now own a piece of the crypto exchange FTX, with Brady serving as a brand ambassador and Bündchen becoming an environmental and social initiatives adviser to the company. More here.
NEWS | OPPORTUNITIES | BITES
Valuations of public software companies can be driven by soft factors, such as technology or market positioning, and hard performance indicators like growth, profitability, capital efficiency and customer retention.
Many public companies are priced adequately based on their past performance and future outlook. Yet I have been monitoring one firm for which performance and valuation don’t seem to match and took a closer look under the hood:
Bill.com
You will see the full analysis is below, but its a bit of a read, so here’s the exec sum:
Product: Bill.com is a fintech platform that helps small and mid-sized businesses (SMBs) streamline and automate billing and payment processes that most SMBs still perform manually.
Revenue model: 49% fixed-fee recurring, 49% usage-based “recurring in nature”, 2% float interest.
Market size: $9 billion domestically, $30 billion globally. Strong pandemic-driven momentum.
Go-to-market: Direct and indirect via channel partners (most major accounting firms, accounting software providers and financial institutions).
Competition: Several competing solutions available, new challenger start-ups and competitors entering from adjacent market segments.
M&A: Bill.com is in the process of acquiring spend management company Divvy for $2.5 billion ($625 million in cash, rest in shares). Divvy has $100 million in annual revenue, growing 100% YoY.
Financials: Strong financial performance based on high revenue growth, good customer retention and on-target operating efficiency. Company will need to prove ability to maintain growth while turning profitable.
Valuation: The total enterprise value (TEV) of $16.4 billion implies a TEV / NTM revenue multiple of 59x. Comparable companies are valued at 20x - 25x.
Conclusion: High-quality company with an excessive price tag. Share price likely to decline to market standard levels. Target PPS: $100 (-54%), in 6 - 12 months
Product
Invoicing and payment processes can be messy and physical documents are prone to human error, which can lead to incorrect or delayed payments. This is where Bill.com comes into the picture. Its platform automatically fills out invoices or recognizes information on incoming invoices, including supplier details and payment amounts, reducing the time for data entry and the likelihood of manual errors.
The platform offers automated field entries, bill approval and payment. Then, it is synced with the accounting software such as QuickBooks for reconciliation of accounting entries and bookkeeping. The integration between Bill.com and the accounting software eliminates double entry and human errors.
Its payment tools enable remote approval and automated payments to suppliers via ACH, wire transfers or PayPal. The company’s bill payment feature enables customers to make electronic payments to suppliers outside the US and, compared to banks, the company’s transaction fees are more competitive. For example, banks usually charge an average of $38 as wire transfers fee whereas Bill.com charges almost 4 times less with its International Payments solution, providing costs savings to its customers. According to the company, it offers payments options to over 130 countries with a supplier network of over 2.5 million.
Revenue Model
The company earns revenues through subscription and transaction fees as well as interest on transactions held.
In the last quarter, which ended in March 2021, 49% of total revenues were recurring based on per user pricing for use of the platform as a fixed monthly or annual payment. Another 49% was transaction revenue, which represents usage-based fees collected for each transaction processed through the platform. The remaining 2% are float revenue, which is interest earned from customer funds while payment transactions are clearing.
While 49% recurring revenue is very low compared to other SaaS businesses, it is fair to say that the other 49% transaction revenue are for the most part “recurring in nature”: A customer who only has access to the platform but does not have any transactions (let’s say a payment of accounts payables), will not pay transaction fees. But customers have a certain number of transactions each month for which they will pay. The number of these may fluctuate to some degree, but for the most part, they can be seen as recurring.
Market Size
In 2018, there were approximately 30 million SMBs in the US. While 24 million of these SMBs are sole-proprietors, the company focuses on serving the over 6 million employer firms, because SMBs large enough to have employees tend to have a greater need for more advanced accounts payable and accounts receivable processes in their back offices.
By multiplying the average revenue per customer of $1,500 by the 6 million domestic employer firms and 20 million (sufficiently large) SMBs globally, the total annual addressable market for the company can be estimated at $9 billion domestically and $30 billion worldwide.
Go-To-Market
Bill.com acquires customers directly through digital marketing and inside sales, and indirectly through accounting firms and strategic partners including accounting software companies and financial institutions.
Its partner base includes over 80 of the top 100 accounting firms in the US and several of the largest financial institutions, including Bank of America, JPMorgan and American Express. Bill.com’s platform can be integrated with many of the major accounting software providers including companies such as QuickBooks Online, Xero, Sage Intacct and Oracle NetSuite, who dominate the accounting software market.
Bill.com’s integration with major accounting software and partnerships with financial institutions provides the company with an avenue to expand its market reach. However, the accounting software vendors could quickly turn from partners into competitors if they decide to provide similar services. Also, there is nothing stopping the partnered banks from collaborating with competitors in the future. On the contrary, it would be in the bank’s and accounting firms’ interests to work with several providers besides Bill.com.
To summarize, the company’s partnerships and integrations are valuable assets in its go-to-market approach. However, they are not a competitive moat.
Competition
A range of other companies are offering good competing solutions. Differentiation can come from the breadth of the product offering or integrations with complementary systems like accounting, banking or ERP software.
With a user friendly and mature product, the company was well positioned to benefit from the move to digital that accelerated in 2020 and H1-2021 due to the pandemic. But while the company has an early-mover network advantage with various leading financial accounting software providers, financial institutions and accounting firms, competitive pressures are certain to increase in the future as various challenger companies are emerging and players from adjacent markets enter the competition to get a piece of the cake.
For example, payables automation solution provider Tipalti, who is valued at $2 billion. The company has stronger focus on enterprise customers and already counts player like Twitter, Twitch, Roblox, Roku, National Geographic, Business Insider and many other names to its customer base.
Additionally, cloud-based business spending management platform Coupa (COUP) has a TEV of $20 billion and is expected to generate ca. $540 million in revenue this year. Coupa provides companies control and visibility into how they spend money but also offers invoice automation and billing services similar to Bill.com’s.
Divvy M&A
In early June, Bill.com announced that it is going to acquired Divvy, a corporate spend management “startup”. The total purchase price of around $2.5 billion is substantially above the company’s roughly $1.6 billion post-money valuation that Divvy set in its January 2021 financing round. $625 million will be paid in cash, the remainder in shares.
Divvy by the numbers:
$100 million annualized revenue
>100% revenue growth YoY
$4 billion annualized total payment volume (TPV)
So Divvy sold for around 25x its current revenue-run-rate and the growth rate tells us that the company did not sell due to performance weakness.
Strategic rationale for the acquisition: Bill.com extends its platform with Divvy’s complementary spend management capabilities and therefore expands its overall market opportunity by serving a larger share of the customer’s spend. Additionally, buying a company with an attractive financial profile and high growth will drive Bill.com’s own growth.
Divvy seems to be a suitable acquisition target that will strengthen Bill.com strategically and financially. The company will be able to provide a more wholistic offering to its customers and capture a larger share of their wallet. As the company expands its market, competition will increase from incumbents like Brex, Ramp, Airbase, Coupa, Expensify and Spendesk.
Financials
In the last available quarter (ending March 2021),
total revenue was $60 million, up 45% YoY,
gross margin was 74%, vs 76% in the same quarter previous year (PY),
free cash flow was ($6.2) million, vs ($2.1) million PY,
implying a FCF margin of (10%), vs (5%) PY,
its rule of 40 value was 34%,
its dollar based net retention rate was 121%, and
its CAC payback period was 10 months
Let’s compare that with the average cloud software company in the SaaS index:
Growth: Bill.com is growing quite a bit faster than the average. This is important because growth is what investors pay the highest price for
Gross margin: Pretty much on par with the market
FCF margin: The free cash flow is notably lower than that of most other SaaS companies, as Bill.com is still burning cash to drive growth
Rule of 40: As a result of the negative profitability, its rule of 40 value is below average. Nevertheless, 34% is a decent value
Net retention: With 121%, the company is a little above average and shows a healthy ability of retaining and growing existing customers
CAC Payback period: The relatively low value of 10 months is good for the company and is likely a bi-product from the market moving from manual to digital, which means that the company is winning customers even without massively increasing sales and marketing spending
Cash: As of March 2021, Bill.com has almost $800 million in net cash on the balance sheet. $625 million of that will be used to pay for the acquisition of Divvy, leaving $175 million in net cash
In summary, financials are very good driven by a strong tailwind from the market bringing customers to its doorstep. At the moment, the company seems to focus on keeping growth as high as possible at the expense of profitability. This is the smart thing to do in order to capture market share in a time when every SMB is looking for an automated bookkeeping solution. With $175 million in available net cash and a quarterly cash burn of $6.2 million, Bill.com has sufficient runway left. Nevertheless, the company will soon need to show investors the ability to turn profitable while maintaining a high growth rate.
Valuation
As of Friday’s close, Bill.com has a total enterprise value of $16.4 billion. Based on estimated NTM revenues of $279 million (including the quarter that ended this week), this represents an astronomic TEV / NTM revenue multiple of 59x.
The charts below show an index of cloud software companies, mapping their performance metrics (e.g. growth) against their valuation (TEV/NTM revenue multiple). You can see clear correlations. Think of it as
“For a company with x% of expected revenue growth, the market usually pays a valuation (multiple) of y”.
Plus / minus some variation.
Bill.com is a strong outlier on each of these charts. What does that tell us:
Growth: The market generally pays higher valuations for companies with higher growth. However, there are several companies growing as fast as Bill.com or even faster, which trade at lower valuations.
Net retention: The market generally pays higher valuations for companies with higher net retention rates. However, there are several companies with net retention rates as good or even better than that of Bill.com, but which trade at lower valuations.
…
You get the idea.
The company’s performance metrics are strong, there’s no question about that. But there are numerous examples of companies with similar or better performance metrics which trade at cheaper prices.
In summary, based on Bill.com’s KPIs and the valuations that investors pay for such performance, the company should trade at a lower price.
Conclusion
Bill.com’s bookkeeping automation software provides convenience, improved efficiency and cost-effectiveness to a broad customers base. The market it operates in has a significant size and is in the middle of a momentum from manual to digital & automated. With top tier channel partners and a range of accounting and banking integrations, the company is well positioned to capture and capitalize on the increasing demand.
The acquisition of Divvy will add complementary features to its current product offering and strengthen stickiness with customers. Yet the possibilities for differentiation through technology are limited and competition will increase significantly in the medium term through both new challengers and adjacent incumbents.
Soft factors and hard factors look positive and, per se, I am bullish about the company and the direction in which it is going. Nevertheless, Bill.com’s valuation is too high. Companies with similar profiles are trading at 20x - 25x NTM revenue. This means that Bill.com has a more than 100% premium valuation to the market standard. Is this justified by a superior product offering, exclusive partnership agreements or a brand name? It doesn’t seem this way.
How to play this
Long: What needs to happen for the price to go up further?
The company must continue to execute and grow as expected by the market
The macro environment (interest rates etc.) must keep stable
The valuation multiple must stay at a premium of 100% over comps
Short: What could happen for the price to go down?
Commoditization of bookkeeping automation software which leads to price competition, lower revenue per customer and decreasing growth
Rising inflation causes earlier interest rate increases, which usually hits high-growth software companies the hardest
Contraction of Bill.com’s valuation multiple towards market standards
Major post-merger integration difficulties
It seems most likely that the company will continue to perform well, but that its valuation multiple will contract to a more market standard level, leading to a decline in share price.
However, we cannot say exactly when this will happen and it is of course possible that the share price will continue to increase over the next few weeks. The target share price based on fundamentals is ~$100, representing a 54% downside, which is realistically achievable over the next 6 - 12 months.
From a portfolio-management perspective, adding a short position in an overvalued company can decrease the overall risk of the portfolio: In volatile times, gains in your short positions can (partially) offset losses in your long positions.
Personally, I have taken a small short position in Bill.com, which I would gradually increase as the price rises further.
Active Investments
Pexip (PEXIP) - Target price: $15 (+66% to current PPS). Analysis
Docebo (DCBO) - Target price: $70 (+12% to current PPS). Analysis
ECOMI (OMI) - Analysis
In just 6 months, Ecomi generated $40m in revenue through its Veve app. This week, the company announced a partnership with Marvel to develop NFT collectibles on its platform. Marvel holds copyrights to 8,000 characters including Iron Man, Captain America, Thor and The Hulk.
This is a huge deal for the company. It will attract new users, new revenue and gives it an advantage over potential competitors. Sine the announcement, OMI’s price has doubled, but is still down from earlier this year. More here.
Exited
Wix.com (WIX) - Target price: $330 (+14% to current PPS). Analysis
The target PPS of $330 still holds, but due to resource reallocation in my portfolio I used the psychological price threshold of $300 to take profit and exit my position early.
NEWS | OPPORTUNITIES | BITES
🎈 Going to space with style, wifi and a drink in your hands
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🏠 Luxury home sells on TikTok in 2 just weeks
📚 State Of Retail Tech Q1’21 Report: Investment & Sector Trends To Watch
🧒 Crypto summer camp for 5-year-olds
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I am long DCBO, PEXIP, OMI and short BILL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
I am not a registered investment, legal or tax advisor or a broker / dealer. All investment / financial opinions expressed by me are from personal research and experience and are intended as educational material. Although best efforts are made to ensure that all information is accurate and up to date, occasionally unintended errors and misprints may occur.