SoundView Technology Group

NXTD 2018 Outlook

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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

Mattersight is Trapped in Deadly Success

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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

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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.

Screenshot 2015-08-11 11.31.20

Can quality technology brands command premium margins?

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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.GPRO_HERO_4

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

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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.

Screenshot 2015-04-09 09.38.33

 

Interesting Mobile Payments Tidbits from ChangeWave

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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.

 

Screenshot 2014-10-22 16.27.13

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.

Screenshot 2014-10-22 16.33.51

 

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.

Screenshot 2014-10-22 16.37.50

 

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?

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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.

MSTR_Chart_Aug_2014

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.

 See important disclosures and disclaimers that are integral to this and all content posted on this website.

Viscount Systems – putting it all together

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For the past 18 months we have written about Viscount Systems (VSYS) and their strong technology for internet-based security. Smart phones and an IT-based approach to management is what is driving change for all types of access control, including physical security. For example the newly expanded Microsoft Azure Active Directory Premium service is designed for widespread enterprise use and just became generally available.

There’s a palpable desire to finally rid buildings of proprietary, inflexible and expensive panel-based control systems. The situation is similar to the old days of proprietary telephones versus what we enjoy today with IP-based telephony.

The stock price and enterprise value of the company has expanded since the early days of our coverage but investors are still waiting for rapid revenue growth and expanding profitability.

Today we have some concrete reasons to raise or expectations for 2014 and beyond. Specifically:

1. Raised $2.4 million and is using some of this cash to build out sales and R&D/technical support teams. In the past the company has just been undercapitalized relative to the opportunity. Now they have the resources to be effective.

2. Management is now in what we would call “extreme alignment” with shareholder interest – not just equity but also compensation is directly linked to increasing revenue growth and expanding operating margins. In addition the team has a clear understanding of the consequences of needing any further capital in terms of dilution and is on a path to reach break-even by YE 2014.

3. Additional sales and support staff will help the company convert a large pipeline of qualified leads into actual sales. This has been an acute issue in the past. The new CEO Dennis Raefield was (among other things) President of Honeywell International from 1998 to 2003 and has the experience, network and experience to build the business at Viscount.

4. On the development side a major certification (Federal Identity, Credential and Access Management or FICAM) will help boost sales to the government and government agencies. It will also help the company fend off competition because certification is not simple. There are some new products in the pipeline and some refinements like exploiting PoE (Power over Ethernet) in some existing products but 2014 is about closing sales for existing products. (For more background on FICAM refer to: http://www.idmanagement.gov)

A story early this year regarding new Viscount Freedom deployments from findBIOMETRICS explains fairly clearly the market conditions that are driving the opportunity for VSYS:

“The demands of security over the past decade have been constantly driven up by an increased number of threats of all kinds, yet facilities that would be deemed as critically important still don’t have access control that could be considered in any way modern. The fact of the matter is that the cost associated with implementing an up-to-date security system is costly, especially when it involves placing a new infrastructure.

This obstacle, rather than being a hindrance, is largely the reason behind the recent spread of Viscount Systems Freedom.Today the company announced its first contract of the new year, awarded by the U.S. Federal Government, to secure facilities in California and Vermont with Freedom.

[Freedom] overcomes the obstacle described above through its Freedom Access Bridge technology, which allows authentication devices (including those that verify via biometrics) to be operated and administered through a standard IT infrastructure already in place in the buildings being secured. No installation of control panels and additional wiring means none of the associated costs that keep the unsecured feeling insecure about their choice in access control.”

Wireless ubiquity continues to spread and with it the confidence to roll out more and more critical services on networks and rely on smart devices (phones, watches, cars) to interface with the user and they systems. Developments in the industry are worth noting as well including even more ubiquitous wireless networking with both Google (with Ruckus $RKUS) and Amazon (with $GSAT) bringing their own independent wireless networks to consumers and businesses.

In all this general excitement there will be a big shift to digital authentication and access control. Our work continues to show that Viscount Systems (VSYS) is still well in the lead on the software side and almost unavoidably in the path of this growing opportunity.

An updated version of our initial coverage report can be downloaded here: Viscount Systems (VSYS) The IT Bridge to Physical Security, May 2014.

 

Slumbering Symantec $SYMC

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There feels like there is a disconnect between all the activity and disruption in the information security sector and Symantec which has been quietly sitting on the sidelines. $SYMC shares have been trending steadily down for the last seven years.

But information security and storage have been red hot the last year or two. Even the IPO market is welcoming for InfoSec companies. Imperva ($IMPV) was a huge success and AVG $AVG did okay. Now we have ProofPoint, Palo Alto Networks and Splunk on the way.

It’d be one thing if SYMC was innovating and coming out with new products to take advantage of the growth in mobile device security, network security management, and authentication – but they haven’t.

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So where is the M&A? They’ve done very little. Even the recent purchase was tiny and basically amounts to an enterprise mobile app store. Useful but hardly compelling.

The consensus around the enterprise IT market is that the company is coasting and might be galvanized into action if they were split up, either by an acquiring PE firm or simply dividing the company into one focused on storage and the other on security.

We’ve reviewed management presentations from the last year and it’s quite clear that senior management is merely going through the motions of running the company. For example the first few hours of their last analyst day were almost completely devoid of information and the slides contained only platitudes.

The company will be again putting on their analyst day in May in San Francisco. The stock is very near where it was last year at this time. Our guess is that it will trend up through earnings (May 2nd) and into the meeting (May 24th) in anticipation of some positive news or developments.

However the company needs to *do* something and it’s not clear that the current management team has this in mind. The company is losing share in terms of enterprise IT in general and even in their chosen segments in particular.

There is potential though. If Symantec could innovate/execute/acquire their way to an improved position their current IV of $23 could expand substantially to $30. The current price of $18-19 makes it possible for someone to “do a deal” and unlock some value in this name.

The big question is “Is SYMC management dusting off the slides and presentations from last year to run through again with a few tweaks or are they taking out a clean sheet of paper?”

For reference here is our IV model based on the steady state of the company:


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Investment banking is not investment research

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It was odd to read the article by Andrew Ross Sorkin today in the WSJ. In it he talks about how all the major investment banks “missed the red flags” around Groupon as the company selected bankers for their planned IPO. He mentioned the balance sheet, the sales model and the fact that insiders already cashed out. Much of this was already discussed and written about when the filing came out and subsequent events made the story even more distressing.

Investment banking is purely about transactions

Mr. Sorkin is an experienced journalist and the WSJ certainly should know their way around Wall Street. What’s going on? Investment banks are hired to support a transaction. It’s true they sometimes call their services “advisory” when it comes to M&A but they only get paid when transactions happen and their fee is based on the size of the deal. It’s not hard to imagine what their motivations and priorities are. They get paid the same for good deals and bad deals.

Of course banks care about their brand and prestige. Goldman has standards. However those standards are driven by the market rather than from within. In other words if the market will accept it and thinks it’s good, Goldman is happy to get the print and take the fee.

All this is especially true during the “bake-off” portion of the IPO process. At this stage a company like Groupon invites all the banks to come and do a dog and pony show with the senior management team to prove how valuable they would be as an underwriter. They are not in evaluation mode, they are in selling mode.

Much like a courtship the banks are invited by the company to “show how much they love them.” Only one suitor gets to be the lead bank (although in large deals there can be two or three) and the rest settle for placement that earns then a nice fee for which they will do zero work. And I can tell you it is zero. (The research analysts at those firms will eventually have to provide stock coverage (buy, hold or even sell which never happens) but the bankers and the distribution network does nothing if they are not the lead bank.)

A key part of the process is where each banks provides a “valuation estimate” for where the shares should be priced and expect to trade. This is the most absurd part of the process because the banks all try and find the highest number. They do need some justification which typically involves sending associates out looking for “companies that have something in common with this one and trade at or have traded at obscene valuations.” They put these in a sheet and find the metric that will create the highest valuation. Banks don’t spend anytime on how much *they* would pay to buy stock in the company. Thanks to the new regulations separating research from banking they can’t even involve the one person or people at their firm that would have worthwhile analysis.

It doesn’t have to be this way

In the “old day” some investment banks like Morgan Stanley tried to maintain high standards that they demanded companies meet before being willing to underwrite an IPO. As they watched other banks run away with deals in the mid-1990’s they changed their approach and created one of the best known “investment banking research analysts” in Mary Meeker.

Before regulations there were some small firms (like SoundView) that actually aligned the interests of the firm with investors in an IPO stock. For example before agreeing to be part of the deal the research analyst had to support a “strong buy” rating on the company with some caveats around pricing. More importantly the compensation of research analysts were tied to deals but subject to company execution. For example if a company came public and either missed published estimates or lowered guidance the analyst would not be paid on the deal. Pretty simple but it made analysts much more certain about their estimates which investors in the company would be relying upon.

The little research investors had back then was all stripped away with the new regulations put in place to “protect them” from the unscrupulous research analysts at other firms (guys like Henry Blodget and a few others at the “bulge brackets”.) It’s not unusual for regulators to get it wrong since they don’t have a deep understanding of the markets they are tasked to regulate. Today investors have to realize that “buyer beware” is just as valid in IPO stocks as it is in most other transactions. It’s unlikely that regulations or markets will get more investor friendly.

Conclusion

This situation is one of the reasons we cover newly-public and even some emerging private companies. There’s opportunity to help investors make decisions and in some cases to exploit solid investment opportunities in the absence of strong independent coverage. Much of our IPO-focused research comes out over at IPO Candy.

I hope the WSJ and Mr. Sorkin can start writing from their knowledge base which should be much deeper around investment banking and Wall Street than this article suggests.