It's so hard for new companies to gain traction in a mature industry. A few big players typically control most of the market share, so when upstarts come along with a better set of products or services, they often get acquired by the big players anyway.
Yet despite long odds, every year brings a new set of companies that are largely unfamiliar to investors. These companies push hard to boost sales at a fast pace, and once the revenue base hits a certain level, they can suddenly get a much bigger following on Wall Street. If successful, these companies can get swept up in a virtuous cycle of bullish research reports, increased hedge-fund interest, and analysis from folks like me in the financial journalism community. All of these usually lead to higher share prices, giving investors who got in early substantial gains.
To be sure, the road to higher sales gets very bumpy. These companies often need to keep raising cash just to fund key growth initiatives. And because these companies seek out small acquisitions to widen their reach, they are a turn-off to investors that shun a growth-through-acquisition strategy.
I've been looking at two of these "industry upstarts," both of which saw their stock slump sharply in 2011. Might they finally fulfill their promise in 2012?
1. MDC Partners (Nasdaq: MDCA)
This company is attempting to crack the mature advertising agency market that is dominated by veterans such as Omnicom (NYSE: OMC), Interpublic (NYSE: IPG), Publicis (Pink Sheets: PUBGY) and WPP (Nasdaq: WPPGY).
MDC has carved out a niche as a developer of online marketing and branding strategies (57% of revenue is tied to interactive advertising). And thanks to a combination of strong internal growth and selected acquisitions, MDC is on a hot growth streak. Sales rose 28% in 2010 to $698 million, and likely rose more than 30% in 2011 to more than $900 million. (Roughly one-third of that growth has been organic and the remainder through acquisitions.) MDC should handily crack the $1 billion revenue mark this year, yet the company is still largely unknown on Wall Street.
MDC would have a deeper following among investors -- and a richer stock price -- if the company wasn't spending every spare penny investing in growth. On that 2010 sales base cited above, MDC Partners generated just $15 million in free cash flow. The 2011 numbers aren't likely to look much better. (That's the result of 20 acquisitions during the past three years.)
Management appears committed to a better balance between growth and free cash flow, having surely been chastened after seeing the company's stock fall from $21 in late July to a recent $13.
Yet investors may soon realize that MDC is actually very well-positioned in the ad biz. The company knows how to get blue-chip firms to better adapt to the era of social networking and mobile devices. Companies like BMW, Samsung and Microsoft (Nasdaq: MSFT) are among MDC's 900 clients. As that customer base has expanded, customer concentration has decreased. MDC's top 10 clients accounted for 49% if sales in 2009, though that figure is now below 30%. (The loss of an account with Burger King this past summer dealt shares a blow, highlighting the perceived risk of customer concentration.)
It's hard to assess what free cash flow will look like in 2012, as MDC may or may not make additional cash-sapping acquisitions. But at the current sales base, 2012 EBITDA should top $120 million. This means shares trade for less than seven times EBITDA, on an enterprise-value basis. When investors come to understand this company's attractive industry positioning better, this multiple should expand to 10, which would push this stock back to its 52-week high of $21 seen last summer. That's 50% upside from here.
2. Rentrak (Nasdaq: RENT)
This company has been transforming from a provider of weekly DVD sales data (which is of interest to very few people these days) to a provider of media-consumption data. Its analytical software helps advertisers and broadcasters understand what consumers are watching in the online and broadcast spheres.
Rentrak's stock hit almost $30 by the end of 2010 (from $15 a year before) as investors saw a potential budding rival for media-tracking giant Nielsen Holdings (Nasdaq: NLSN).
At the start of 2011, management laid out a series of lofty growth targets that simply could not be met. Rentrak missed quarterly analysts' estimate in three of the last four quarters -- by a significant margin -- and shares fell more than 50% compared the past year. The shortfalls were the result of a faster-than-expected decline in the DVD sales tracking business, and a slower-than-expected ramp in the new media consumption tracking segment. Since the new business can't ramp fast enough to offset the declines in the legacy business, Rentrak's total sales are expected to actually shrink 4% to $94 million in fiscal (March) 2012. Further expected sales declines in the DVD business will likely cap 2013 sales growth at around 10%.
Yet its' the viewing tracking business, known as TVEssentials, that is the real focus for investors. After a solid run of new contract signings throughout calendar 2010, Rentrak found few new takers for its TVEssentials service in the first half of 2011, giving the impression that upstart's momentum had stalled. The good news: Rentrak signed up more than 30 new licensees in the September quarter, and the December quarter appears to have been strong as well.
TVEssentials now has more than 160 customers, of which two-thirds are local broadcasting affiliates of the major networks. Rentrak is winning contracts against Nielsen because it does a better job of gauging viewership by the second, highlighting which commercials are being watched. (Nielsen takes a snapshot of viewership every 15 minutes.) This article from trade publication Variety neatly summarizes the distinction.
The market opportunity is huge. Nielsen generated $1.5 billion in revenue from its TV rating service in 2011. Rentrak is on track for just $40 million in TVEssentials' revenue in fiscal (March) 2012. Yet analysts see that revenue base rising at a 30% annual clip through 2015. This is a stock you should get to know. If the March quarter comes in ahead of forecasts, this may be a rising star of 2012.
Risks to Consider: Aggressive growth stocks bring heightened execution risk as management sets lofty growth targets and then stresses the company to meet them. Management appears chastened, but these companies will need to deliver a string of solid quarters to win back investors.
> After a sharp drop in 2011, each of these stocks appears more attractively valued when measured against their still-robust growth prospects. Even minor market share gains against their much bigger rivals would translate into robust organic sales growth. Pay attention to both of these stocks. I wouldn't be surprised to see 50% upside in either of these names this year.
No comments:
Post a Comment