NXTD 2018 Outlook

April 18, 2018 by Kris Leave a Comment

Download as a pretty PDF here: NXTD SV Note April 2018

April 2018 Update

2017 was a busy year for Nxt-ID. Revenues tripled to $23.3M from $7.3M in 2016. It took some expensive financing to get it all done but now the company is in a much better position and has cleaned up the balance sheet considerably. The last component is a refinancing of their revolving debt which we believe will come soon (as per recent management guidance.) This final step will dramatically reduce their interest payments.

(For investors new to the NXTD story we recommend you read the recent SEC 10K form – the first sections are well-written and the most current detailed overview of the business. Here’s a link to the PDF ADD LINK.)

We expect they will build on their success in 2018 – primarily in expanding the FitPay business and extending their LogicMark franchise more deeply into the healthcare industry.

But investors should be reminded that the company is rooted in authentication and payments technology which allows them to continue to innovate around new devices and payment devices. The advent of blockchain technologies and crypto currencies has opened up an even broader range of business development opportunities. In 2018 we expect Nxt-ID to debut a new next-generation general purpose payment device.

LogicMark

LogicMark has been a steady growing business, making consistent quarterly revenue progress. In 2018 we expect more of the same backed by a broad range of updated products and expanded distribution and more direct-to-consumer offerings that don’t require monthly service fees.

LogicMark is also working on expanding their role in the healthcare industry from personal emergency response (PERS) units into solutions for patient monitoring and chronic care.

For example, hospitals want to discharge patients as soon as possible (often too soon) but face penalties and unreimbursed expenses if that patient has to return to the hospital with a relapse. By discharging patients with improved monitoring technology, the hospital can reduce the frequency and severity of relapses and in many cases avoid re-admission.

At this point we are only modeling continued expansion of the PERS business so we’ll be watching how the company develops their healthcare market opportunity. The area is ripe, but we know that hospitals and care-providers can be very deliberate in their adoption of new technologies and are often hampered by regulations and prior investments in large legacy systems.

There are some positive trends in healthcare that make us cautiously optimistic. First of all, the pressure on the already-creaking system is unrelenting. An aging population is only making current inefficiencies harder to endure. On the technology side we have seen real growth in modern methods like Telehealth. One example is the success of Teledoc (NYSE: TDOC) which now has 23 million paying members and grew revenue last year 89% to $233M. The company expects to do $355M in revenue in 2018.

Fit Pay

More Fit Pay enabled devices will be rolling out in 2018. Existing customer Garmin is adding “Garmin Pay” deeper into their product portfolio and it should be available across more of their lineup by the end of the year.

We also expect to see shipments of more innovative wearable devices like the Token Ring LINK. We believe there is significant consumer demand for some kind of “digital cash” option outside of the smartphone. So far nothing has fit the bill and seen significant adoption but a raft of new devices may change this.

Fit Pay has their own offering, the Flip, which is scheduled to begin shipping towards the end of Q2. We think about Flip as kind of an “EZPass” for your daily life. Small purchases should be easy and anonymous.

The Flip offering is about recurring account fees but they will be small in magnitude. In 2018 this is still more about “design wins” which translate into long-term recurring revenue streams in the form of small activation and account fees.

We expect some significant new customers for Fit Pay in 2018, possibly as early as Q2. These will also reinforce the positioning Fit Pay as a platform and a strategic asset. Any device-maker outside of Apple and Google that wants to do payments would consider Fit Pay to be a key piece of proven infrastructure.

General Authentication and Payment

Two years ago Nxt-ID shipped the Wocket which was the first working digital wallet on the market and it worked. However it wasn’t perfect and the industry shift to EMV cards blunted the potential for a “1.0 product” like the Wocket.

Last year Nxt-ID shipped tens of thousands of a much-improved device that was developed for a single customer, World Ventures. We view the World Ventures Flye card as a “1.5 product” and it is a huge advance in terms of form-factor and acceptance. But in this fast-evolving industry the credit card companies have made it clear they much prefer non-credit-card form factors and “contactless” payment technologies.

In 2018 we expect Nxt-ID to debut another, more advanced device, let’s call it “2.0” and it will have at least one initial customer to provide initial volume and testing. However this device will be general purpose and be open for use by multiple organizations, customers and use cases. It provides a platform for the company to add functionality (like health features or medical information) and go after different vertical markets like education and/or crypto currency applications.

In case you haven’t noticed payments have become more time-consuming and less secure at most retail checkouts. Thanks to the EMV chip there is a longer lag between presentation and purchase. And most merchants don’t even look at your card, let alone verify the name and check ID.

We’ve seen some movement on simplification – at least a “no signature required” for purchases under a certain amount. But these are typically set and controlled by the merchant, so practices vary widely.

Consumers want speed and simplicity with security. Apple is trying to cater to this with their “pay with your face” campaign which only works with ApplePay. Nxt-ID has a history in both authentication and payments – they have plenty of raw material is there for them to address this opportunity.

We expect devices to ship and revenues to be booked in 2018. However, the number and magnitude we be clearer in the second half.

Valuation and Stock Conclusion

We’ve adjusted our IV model slightly, mostly to take into account changes in debt and shares outstanding. The first part of 2018 will include debt refinancing, more design wins and continued execution in the LogicMark business. The second half of the year will be where we see material growth in revenues on a YoY basis.

Additional Disclosures

SoundView serves as a strategic advisor to Nxt-ID and provides advisory and other services including strategy advice, company positioning, investor communication methods and ongoing technology and market research. See our full page of practices and disclosures which should be attached to this report. If not, it is available at http://soundview.co/practices

MRI Interventions Consolidates their Lead in Brain Operations and Drug Delivery

April 1, 2018 by Kris Leave a Comment

Context

MRI Interventions “ClearPoint” system is well-known in the neurosurgery space as the most accurate, least invasive way to perform brain surgery. It’s frequently used for deep brain stimulation, laser ablation and to deliver drugs to tiny areas in the brain to treat conditions like Parkinson’s Disease.

The company has grown consistently over the years but it’s still small. Late in 2017 a new CEO, Joe Burnett, was recruited to begin the next phase of growth and expansion from the existing base.

We covered Joe Burnett’s background in our November report, but since that time we have continued to speak with people who know him and current investors in MRIC that have had a chance to spend some time with him. The feedback confirms our own view that he is a good fit to help the MRIC team get the company to the next level of growth and begin to realize the potential of ClearPoint.

The company has recently started to lay out the key strategic initiatives that will drive results for the next few years. We’ll go through them in more detail and highlight how they tie back to the foundations of the company as described in our November report.[1]

The four elements of the strategy are:

Use best practices to make surgical procedures with ClearPoint more efficient for current indications – deep brain stimulation, laser ablation and tumor biopsy.
Increase penetration into drug delivery market.
Launch new therapy products including an MRI-guided aspiration device for ClearPoint.
Scaling the business model globally, and with additional products and services that can be distributed via the existing therapy partners.

These initiatives share the characteristic of requiring only marginal variable expenses and investments. They leverage the existing assets, technology and expertise of the company and should generate high returns on invested capital (ROIC) for shareholders.

[1] Our November report can be downloaded via this link: MRI Interventions: Becoming a Surgical Platform. http://s3.amazonaws.com/Published_Research/MRI_Interventions_MRIC_SV_Report_FINAL_NOV_2017_DISC.pdf

Ramping the Base

Availability of MRI system time has been a major governing factor for surgeons to use ClearPoint. It is steadily getting better but not at a rapid rate. MRI Interventions has worked extensively with leading centers and has developed an inventory of “best practices” that can be applied to their entire installed base.

For example, by ensuring that a procedure can be completed in under four hours means that a surgeon can schedule two surgeries during the same day of MRI time. Today in many centers surgeons don’t have that clarity. By shifting from one to two procedures a day, MRIC can accelerate their growth rate without adding a single center. Improved efficiency also makes each additional MRI machine or time slot worth more revenue. It also means that new system placements can ramp faster and reach a higher run rate.

This will also increase the profitability of MRI time to the hospital which is becoming a greater focus within the industry as healthcare providers begin to invest in improving profitability through better asset utilization. By doing two procedures in one day, the total revenue related to the MRI use for the hospital would increase to approximately $80,000 depending on the procedure.

In 2017, the company completed 629 procedures which generated “disposable product sales” of $5.3M. That works out to an average of one procedure per month per center. If surgeons can get two procedures in during one session and get one full session every other week (on average), it would work out to 24 days of MRI time per center per year x 2 procedures per day x 52 centers for a total of 2,496 procedures and $25M in disposable sales.

This isn’t going to happen overnight. But it’s a reasonable working expectation considering a viable surgical practice would tend to schedule procedures for every other week (excluding holiday weeks). The question is really when, not if.

One consideration that’s beyond the scope of this update is the advent of much better “yield management software” for healthcare systems in general and MRI rooms in particular. These systems are being deployed in some markets now and will continue to spread. As they do, it’s likely that MRI availability to high-value procedures like surgery will increase.

Drug Delivery has Huge Potential

Management is now breaking out “biologics and drug delivery systems” revenue separately and expects to garner additional drug delivery customers in the future. It will also help investors appreciate the growing importance of this area on the enterprise value of MRIC.

This year we will have existing customers like Voyager ramping their clinical trials and the prospect of additional drug companies beginning to use ClearPoint for their future trials.

To appreciate the potential for MRIC in terms of drug delivery you should refer to that section of our November Report. In summary, we took a probability-weighted estimate for each drug trial and applied that to the revenue potential for MRIC. For example, this chart shows the probabilities for drugs moving through clinical trials.

ClearPoint is already being used in a number of ongoing trials and they also have a number of undisclosed drugs that are using ClearPoint but in pre-clinical work. As these move into Phase, we will learn more about them and be able to include them in our drug delivery analysis.

New Products for Neurology

In this section, the potential for ClearPoint as a platform will become more apparent. First, let me oversimplify.

The ClearPoint system gets a doctor to a very specific area of the brain. At that point, it’s just a question of what “attachment” you need to perform the procedure – electrodes for deep brain stimulation, a laser for ablation and a catheter for drug delivery.

Many treatments require the surgeon to remove tissue via suction. By adding an aspiration attachment, the ClearPoint system can handle this function as well or better than existing methods. The ClearPoint system will always have an advantage in terms of control and accuracy. The Mayo Clinic is collaborating with MRIC in developing this technology for use in treating stroke and brain hemorrhage.

For example, in situations where there is an intra-cerebral hemorrhage, the aspiration capability would allow the ClearPoint system to treat it without requiring another system.

This isn’t in our model yet. It’s not yet clear if this will add to the number of procedures and/or increase the average disposable revenue per procedure. Once we know more we can factor it in.

Expanded Distribution

This is the most general of the four and fairly textbook in terms of business strategy. However, right now MRIC has very little presence outside the US and they could leverage their existing US-based channel to distribute additional products.

Given that MRI resources are not abundant in many economies, it’s not clear how much international expansion is possible in the near term. There may be products that can be added to the ClearPoint sales kit.

As long as they are truly adjacent and won’t disrupt or distract the channel, this can be another high-margin additive revenue stream. Our guess is that this is more of a long-term (2-3 year) component of the strategy.

Valuation and Investment Conclusion

Since we published our November 2017 report, the company has evolved to an improved focus and better operating plan.

More quantitatively, trials like Voyager’s have moved forward and are enrolling patients for the next phase, so there is better visibility on that.

All things considered, we now have a higher conviction level and believe that there is upside to our published model. Our Intrinsic Value (IV) target is now $16.65 after making a few modest tweaks to expenses, share count and the balance sheet.

If one applies the IV target, the capitalization of the company would be ~$185M. That’s still only a fraction of the total market potential. It’s also worth pointing out that increasing of ClearPoint drives greater demand for MRI equipment. A modest $100K ClearPoint system sale helps to drive additional sales of much more expensive scanners.

Furthermore, our forward estimates include quite a bit of the plan noted here but they under-represent any approved drugs that would be delivered with ClearPoint. These approved drugs are still years away so it’s reasonable to not fully include them from a five-year revenue analysis. Our probability-weighted model suggests an incremental $135M in potential revenue based on potential drug approvals in the next three to five years.

It’s unlikely that this potential drug delivery aspect of the MRIC stock story will forever remain unappreciated by the investment community, but the precise timing of when they will begin to be recognized for it is uncertain.

Please refer to the PDF of this report for additional disclosures.

MRI Interventions New Focus

February 1, 2018 by Kris Leave a Comment

We’ve been following MRI Interventions (MRIC) for two years now and the company recently hired a new CEO, Joe Burnett, who has enjoyed a long and successful career in medical devices. More details are in the October 2017 press release.

This is a brief update on what we are expecting in 2018. For investors who don’t already know about MRI – a read of the full report embedded here as a PDF (just click on the image) will get you up to speed. In short, the MRI Interventions ClearPoint system allows brain surgery to be done with far greater accuracy and safety than any other method. The company has been seeing consistent growth and expanded adoption of their technology. There are also some large future catalysts for accelerated growth as more drugs begin to get delivered directly into the brain to cure problematic diseases like Parkinson’s.

Here’s our update:

Company operations will shift to focus more on increasing utilization of existing installations. New placements will still happen but there is much more leverage in driving increased use of the systems already out there. Even using simple “back of the envelope numbers” the company can get 2-3x current revenues with improved utilization and still not be close to system capacity.
Additional applications of ClearPoint will also drive demand. Laser ablation for epilepsy patients can drive thousands of additional procedures that would require the use of ClearPoint. Clearpoint can also be used to biopsy brain tumors when they are in hard-to-access locations.
Drug delivery continues to move forward – led by companies like Voyager Therapeutics (VYGR) which recently announced that they have received FDA clearance to begin their Phase 2-3 trial of VY-AADC for Advanced Parkinson’s Disease.
We may see more progress internationally. This hasn’t been a big area of focus but it’s a major opportunity. If the company can leverage partners in the international markets they may be able to expand globally in a capital-efficient manner.

We will learn more when MRI reports the December quarter and full-year 2017 results in March. Our IV suggests a share price objective of $17 which compares to the current $3 stock price.

Mattersight is Trapped in Deadly Success

November 16, 2016 by Kris Leave a Comment

We’ve been following Mattersight (NASDAQ: MATR) for years now. The company positioning in “personality based routing” very much intrigued us. As did their IP, proprietary data and high gross margins.

Yet the shares have done nothing but go down as shown in the chart below. Mattersight has been successful with some very large customers and spent most of their time getting “new logos” in their sales pipeline. Unfortunately, customers are either unwilling or unable to deploy the “high ROI solution” quickly. It’s a sad story of customers who have ended up in control of the timing of any bookings or revenues that the company can recognize. This has been an ongoing struggle for the company but they have been unable to come up with a solution.

Management has not been able to change their sales process to focus on business that can be won and recognized more efficiently. Instead, they “close” on business that can’t be booked because the customer has complicated deployments to do first and/or needs to hire “thousands of people.”

In this arena “success” and “new logos” don’t drive growth and profits for investors. It does make the company an attractive M&A prospect though. Instead of looking for a “CFO hire that can move the stock price up” the team should hire bankers to get the best deal from the more established companies – here’s why:

Customer support is business critical and the ability to route customers more effectively in call centers, online support or even chat bots is important and offers high ROI.
Integration is a challenge though, especially when myriad channels are involved which is now most often the case. Larger companies like Cisco, Avaya and NICE can handle these situations.
While rich in IP and customers, Mattersight is too small in terms of revenue and market presence to attract high quality talent or system integration firms. This is now mostly true with investors as well.
The Mattersight business model, despite having high gross margins, is capital intensive. That makes it a poor fit for a small company with cheap equity and limited access to financing.
In the hands of a large technology company or systems integration firm, the Mattersight software and IP would generate significant revenue and differentiation.

Although there is no way out of this pickle for Mattersight, they can still have some leverage in the M&A process thanks to their IP position and customer relationships. The longer they wait though, the worse it might get given their ongoing losses.

Who should buy MATR? The list is long considering that it might be service companies like Accenture as well as technology vendors like Cisco (NASDAQ: CSCO) and NICE Systems (NASDAQ: NICE). Private equity companies (TPG and Silver Lake) purchased Avaya but are now looking to sell it, or pieces of it, to reduce debt and make it more “nimble.”

There are other angles here. We could imagine a more modern company like ServiceNow (NYSE: NOW) or even Zendesk (NYSE: ZEN) taking a serious look. Because Mattersight also has built up a proprietary database, they are more attractive and they might also appeal to a broader, more data-oriented buyer as well.

Of the group, NICE makes the most sense to us although they did just buy inContact (SAAS) for $940M. From a valuation standpoint, the deal was done at just over 3x run-rate revenue. If we apply the same to MATR we get a $120M price or about $4.80/share. Not enough to pop champagne but the best option at this point.

M&A bankers start your engines!

NXT-ID Ships Wocket Pre-Orders and Raises Capital

August 11, 2015 by Kris Leave a Comment

It’s been a busy Q2 and early Q3 for NXT-ID (NASDAQ:NXTD) but the stock price doesn’t reflect it. We took this moment to update the story and our model based on recent events.

The net is that the risk/reward on the shares has never been better given our IV estimate of $7.52. Click on the image to download a PDF of the report.

Can quality technology brands command premium margins?

March 26, 2015 by Kris Leave a Comment

We’ve all seen what Apple ($AAPL) has done with technology, branding and margins. Many articles have been written about how the iPhone may make up a minority of high end smartphone shipments but captures the vast majority of the margin in the business. As a technology guy I have chalked up a good deal of the Apple success story to the “hidden hero” of their offerings which is software. Between iOS and MacOS they have a huge advantage and wrap beautiful, well-designed and cutting edge hardware around it.

As an aside it’s interesting to note that this is quite the opposite of how system vendors like IBM went about their business a couple of decades ago. IBM mounted a major campaign to increase the “clothing rate” of their hardware with more software and services. This helped margins but because most hardware and software wasn’t tightly integrated it was hard to execute. On big exception was the massively successful AS/400 which was a fully integrated solution. It was also differentiated, high margin and worked better than most systems in the field. Much of the “innovation” we’ve seen for the last decade is an extension of many of those features into other platforms like Intel servers, laptops and mobile devices. But I digress…

The company and stock in question here is GoPro ($GPRO) which I have enjoyed on the short side now for some months and am switching over to a small long position. The reasoning there is a combination of continued strong execution, partnerships with commercial content providers, much lower valuation and limited competitive inroads thus far. There are still major doubts in my mind including: maintaining what is a very high-priced package, differentiating on top of a “standard” SoIC platform from Ambarella ($AMBA), and the continuing puzzle of how they will monetize a “media content” business.

A deeper question for GoPro the company and the brand is whether or not they represent a set of qualities that consumers will find willing to pay for. Like others I’ve seen many competitive products in the market and most are much less expensive. The question in technology though is do these alternatives all suffer from the “six months to junk” technology syndrome. If I spend $500 on a GoPro and use it frequently for the next two or three years I don’t care much about the price versus a $200 alternative that sits in a drawer until I toss it or unload it for a few dollars at the next MIT SWAP sale.

Were it not for the great success Apple has had the question wouldn’t make much sense. GoPro still lacks a value-added retail presence. They have nice display space all over but there’s no equivalent of a genius bar around them. Any ecosystem effects are still limited. There’s some level of community to be sure but it’s not the same as something that demands investment suggesting a longer term commitment. Drones are one potential area where GoPro might get something close to a “designed in” position. It’s a small category but it’s a start.

Competition seems non-threatening considering the “usual suspects” like Sony, Kodak, Canon, Nikon and Polaroid. Apple would certainly be formidable competitor but they have bigger fish to fry. Given how big Apple has become a GoPro-like product wouldn’t move the needle and would be more of a distraction than a strategy. There will probably be credible competition from China but again the consumer experience, distribution and partnerships will matter.

I’ll be doing more research for sure. Video is certainly huge and GoPro has a good vantage point from which to execute a strategy. Still early.

The hosting kaleidoscope

March 24, 2015 by Kris Leave a Comment

I’ve come a long way from Yahoo hosted sites in 2004. At the time my colleagues were impressed with how fast I was able to come up with such a “professional website” for what was then called Research 2.0. It didn’t take long to realize that Yahoo was all proprietary and inflexible so something more general purpose and open was called for.

Fast forward to today and even a small company like mine relies on a web of specialized hosting providers. I’ve found LiquidWeb to be a pretty solid general purpose host. There are plenty of alternatives and flavors but we’ve used them for a decade now and the performance, value and support are solid. But the AWS from Amazon is a force too powerful to ignore and we started using it for serving all “heavy content” like PDF files. It might also be hosting our IPO Candy video collection but we’re also looking at companies like Wistia for that.

Synthesis has become our host for the WordPress component of our content. Why? Because I’m tired of managing individual upgrades themes and plugins. Although we are building a new backend that will be hosted on a regular server it will still make sense for this front-end system to stay on a specialized hosting platform like Synthesis. WordPress offers their own enterprise hosting but it’s very expensive.

I have to wonder why nobody has figured out how to combine all these hosted services into one modular yet integrated and effective package. When you add commerce features like subscriptions (in our case) or sales the idea of having a single solution is pretty attractive.

At one end of the spectrum you have hosting providers like LiquidWeb where you have to put it together yourself. There are hosted services like Wix and WordPress.com and the like but they all lack the flexibility and specific features to build a business site that is in any way unique. As soon as you want to do one thing they don’t support you’re stuck.

It’s why soon I’ll be dealing with another host. To build something *really* interesting you need to push the envelope. One of my favorite new platforms is Meteor which we are building on now. Over time maybe everything we do will be on that platform but I’m not sure that’ll make sense. After all content ranges from the social (tweets, pictures, comments) to long-form content, collections of links, PDF objects and videos. They all need to stored and served effectively from somewhere and wrapped in contextual services like user access control, commerce and personalization. It’s not so simple.

Software has always been an intensely creative thing. Now that has morphed into a combination of programming and a web of online services. Much has been written about the API but that’s very much on the programming side of things. Weaving together a combination of insightful code with other services is the challenge of the day.

Julian Simon Redux

December 3, 2014 by Kris Leave a Comment

We’re reviving a post we did back in April of 2007 about what we view as “Moore’s Law for Energy” which is rooted in the work of Julian Simon who published an influential book called “The Ultimate Resource” and made some famous bets with other economists about declining long-term costs of raw materials.

Back in 2007 oil prices were surging to ultimate hit $140/barrel (albeit briefly). I shorted oil on July 3rd of that year for the first and probably last time in my life since that’s not my strong suit. But the annual July 4th BBQ the consensus was that oil was going to $200/barrel and maybe higher. You could feel the bubble.

Today hands are wringing over the recent declines in oil but even in the piece we originally published the research suggested that oil could return to the $30/barrel level. (We’re not here to make oil predictions though.)

What is more certain is that the types of advances Simon talks about are all around us:

Fuel economy has taken huge strides forward. When I wrote the piece in 2007 I was driving a large steel vehicle with a V8 engine getting about 10 MPG. In 2008 I upgraded to a similar vehicle with a V6 packing the same horsepower which jumped up to 20 MPG. Just a few years later Volvo has demonstrated a 4 cylinder engine that generates the same power with 50% greater efficiency. Add in some start/stop technology and lighter materials like aluminum and it’s easy to see 40+ MPG for a vehicle of the same size and performance. All in about a 10 year span.
Incremental energy production has ramped up, particularly in the US natural gas industry. The “US energy boom” has been powered by a wave of public and private financing. We can see it clearly in the sheer volume of new energy IPO deals counted and covered by IPO Candy. Add do that continued smaller contributions from wind and solar and it adds up. The momentum may dampen somewhat if oil goes lower and stays there but will probably stay active.
No more just guessing about and wasting energy. When it’s cheap nobody cares if it takes a few days to figure out a pipeline is leaking or that air is seeping into a natural gas feed, greatly lowering the energy content. Well those days are coming to an end. We own shares in one basic energy technology company, CUI Global (NASDAQ: CUI). CUI is a very small ($150M cap) company that provides devices that enable real-time accurate measurement within our energy transport systems. The ROI is high and simple to understand. We love to think about CUI as an “Akamai (NASDAQ: AKAM) for energy pipelines” but know that’s going too far.

Of course the list can go on and on from light bulbs to electric cars. We own Tesla (NASDAQ: TSLA) but that’s not a play on energy but rather a new approach to vehicles.

Unfortunately Julian Simon died in 1998 but his work and profound thinking live on and serve us well when thinking about “fixed” commodities and their long-term prices.

Interesting Mobile Payments Tidbits from ChangeWave

October 22, 2014 by Kris Leave a Comment

We’ve been working quite a bit in the secure payments area so the recent ChangeWave survey results around Apple Pay grabbed our attention. As we suspected Apple Pay is a game changer in a massive industry. You might find yourself nodding away at the points and pictures below but pinch yourself – this is a big deal. Mobile devices will be taking over a significant portion of payments rapidly – finally moving this market into commercial status and putting acute pressure on device makers and software platforms like Android to catch up. We also expect the market for non-phone-based smart wallet technology to be lifted by the acceptance of Apple Pay as well.

We’ll keep it down to simple bullets and pictures:

1. PayPal should be very worried about Apple Pay. Look at how the two reversed position in terms of consumer preferences in just three months! That’s huge.

Apple v PayPal for consumer payments — Apple kicks PayPal in the gut.

2. Apple has squarely addressed the two major obstacles to increasing adoption of mobile payments.

3. 28% of consumers reported that it was “likely” or “very likely” that they would use Apple Pay and these are the top areas cited for use. The strength of the “dining out” option is higher than we would have expected. It makes the payment plan by Open Table (prior to the PCLN acquisition) seem more sensible although it’s now probably DOA thanks to Apple Pay.

4. Although this is a major turning point there’s still work to do and plenty of opportunity. Security is still a big issue for the majority of consumers and it should be remembered that only a small minority of people will be carrying an iPhone 6 or better for a while.

In summary this is an expected but very strong set of results for Apple Pay in particular and we think further for increased adoption of digital payments. Smart wallets, smart watches and other personal technologies will all integrate with a new digital payment infrastructure.

(We strongly recommend ChangeWave for investors and companies looking into emerging technology trends. Shoot us an email and we’ll be happy to point you to the right person there to set up a subscription. )

[Specific disclosures related to this post – Long position in AAPL, long position in MOLG, advisor to NXTD, actively seeking other advisory work and/or investments in mobile payments.]

Time to Short MicroStrategy?

August 13, 2014 by Kris Leave a Comment

Nutshell:

MicroStrategy (MSTR) has had some challenges lately and is now working on both an organizational and product line transition that will take a year or more to play out. Meanwhile, the shares haven’t had any meaningful pull-back, which seems at odds with our expectations.

MSTR has long been a bit of a cult stock in the business intelligence (BI) segment due in no small part to a small stock float and their eccentric CEO. As the chart below shows, the stock often swings up and down by 20 to 40 points (or about 20-40% based on an average share price of $100.)

Recently, management acknowledged that revenue growth is low (+3% for June 2014) while expense growth is too high (+15% for the same period.) They announced a $40M restructuring, simpler product packaging, and have embarked on a brand new initiative called Usher, which is in the crowded identity management space. Management describes the transition as at least a 12-month period after which they believe they can generate 10% operating margins.

If we give them growth back to $625M in 2015, the 10% margin, apply a generous 20x multiple, and adjust for the $367M in cash, we end up with a total market capitalization of $1.6B, which is right where the shares are right now.

There are quite a few moving parts here and plenty of potential bumps in the road as the company works through the transition. We follow the identity management space closely and have a hard time envisioning high margin sales growth for MSTR in that market.

Challenges and Opportunities

Before firing off bullet points about the company, the end markets are healthy. Business intelligence is quite mature, but still growing 8% or so per year according to Gartner Group (IT.) Firms with differentiated solutions like Splunk (SPLK), Tableau (DATA), Veronis (VRNS), and Qlik (QLIQ) are growing revenue much faster. Identity management is a little harder to pin down, but it is certainly growing in terms of activity and priority. However, here existing platform technology and online service providers are extending their solutions into this space. At the same time, numerous start-ups and smaller companies (like LifeLock (LOCK), for example) target this specific market.

An excellent article by woodworker-analyst David Hernandez prompted our look at MicroStrategy, and it makes an excellent backdrop to our own views: MicroStrategy’s Leadership Causing Company to Struggle.

Challenges:

After a weak Q2 during a stated “transition year”, the shares remain near highs, making the share price vulnerable to a major decline before “easy compares” begin to materialize in 2015.
An increase in investor-related communication is probably a good thing, but the CEO might be prone to gaffs as a technical founder type. Sometimes it works out fine (as in Zuckerberg), or not (as in Andrew Mason.)
Competition in BI is as stiff as ever, and MicroStrategy will find it difficult and/or expensive to get back into a mode of gaining (or at least not losing) market share. Despite fairly heavy spending on sales and marketing ($215M in 2015), revenue growth is slight. Gartner Group has MSTR in their “leadership quadrant”, but behind eight other vendors including Microsoft, IBM, and Oracle.
Pushing into identity management is risky. Industry analysts have pointed out that this has “created an ambiguous product portfolio and blurred the company’s marketing message” and “have diverted sales, development efforts, and focus away from addressing critical market requirements for ease of use and data discovery.”
To make matters worse, in identity management the strong players, notably IBM, are investing huge sums of money in being a leader in this market, including buying best-of-breed technology vendors and service providers. This is not a great market to attack without a 10 year plan.
Management restructuring and “vacuum” in Head of Sales role is often a situation that causes some operational shortfalls, particularly in booking sales and hitting quarterly numbers. Even if the new sales executive is announced today, it takes three to six months to review and revamp existing processes and staff (where required).
With over $360M in cash on the balance sheet, MicroStrategy is in a good position to acquire companies that might accelerate their execution. Purchase accounting can help with growth and technology, and service-provider acquisitions might create a strong brand message in either BI or identity.
In the BI space, firms like Datawatch (DWCH), or even Veronis (VRNS), would provide some new facets of functionality, growth, and long-term positioning in the core market.
Activist investors like Apex Capital might get their way and force an ouster of the current CEO and a big stock buyback. With such a small float, the shares would get a major lift. And Apex would enjoy a nice return on the 467K shares they own. For example, a $300M buyback at the current price would take out about 20% of the already-thin float.

Opportunities:

With over $360M in cash on the balance sheet, MicroStrategy is in a good position to acquire companies that might accelerate their execution. Purchase accounting can help with growth and technology, and service-provider acquisitions might create a strong brand message in either BI or identity.
In the BI space, firms like Datawatch (DWCH), or even Veronis (VRNS), would provide some new facets of functionality, growth, and long-term positioning in the core market.
Activist investors like Apex Capital might get their way and force an ouster of the current CEO and a big stock buyback. With such a small float, the shares would get a major lift. And Apex would enjoy a nice return on the 467K shares they own. For example, a $300M buyback at the current price would take out about 20% of the already-thin float.

Conclusion

It seems unlikely that activist investors will be enough to unseat the current CEO, and the transition will proceed apace over the next year. If Apex Capital doesn’t get satisfaction, then they will be tempted to sell off their shares. (Investors should be reminded that it’s often the case that options are used in concert with outright share ownership, which can make ownership a murky issue.)

The corporate strategy to go after a meaningful position in the identity management space, even while their core BI business is not growing, is at least risky even if it’s not just a plain bad idea.

At current prices, the stock appears to reflect a successful restructuring even though the company hasn’t demonstrated much yet and has two to four more quarters to go. With management in the midst of an organizational restructuring and no announced Head of Sales, they may lose a step or two along with some of their better people.

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