In our top down review of a selection of small SaaS companies we noted that on face value metrics for Updater ($UPD) looked good. Revenue growth, historic and forecast, was parabolic and this was being delivered with modest cash burn relative to peers. However, the composition of this revenue growth is the key for further analysis.
In this post we use our SaaS Framework to pose some possible questions for a bottom up analysis of Updater.
Question 1 (For Updater) – What is the composition of revenue growth?
There are three main elements to the actual and forecast revenue growth profile of $UPD:
- Real Estate Products. These are the majority of revenue streams prior to the December quarter. They show steady growth but nothing that would come close to justifying current valuations.
- Growth from Acquisition: In October 2017, $UPD spent US$21m acquiring IGC and ACI. These businesses had 2016 revenue of US$7.2m, so presumably they contributed a reasonable proportion of the growth in Q4 receipts.
- Business Products: These are in the nascent stages, but represent the sizzle underpinning the share price.
These various income streams have different values. Real Estate Products and Move HQ are solid SaaS businesses, but history (and acquisition multiples of 3x revenue) suggest that revenue growth going forward will be solid not exponential.
The real driver of valuation is Business Products. It is the performance of these products which will make or break the share price. An important starting question for analysis is therefore:
- What proporption of (a) Q4 17 Cash Receipts and; (b) FY 18 Revenue Forecasts, relate to recent acquisitions versus Real Estate Products and Business Products?
Question 2 (For Updater) – What is the detail behind the Updater Funnel?
Updater is all about the expected growth in Business Products. As these are only just launching, this expectation is based on understanding and extrapolating the Sales Funnel, rather than extrapolating any hard sales history.
At the top of this funnel is the concept of “Moves Processed”. It has been the driving metric of Updater since listing and is prominent in all presentations. Certainly the trend and absolute level of this metric is impressive. But what does it mean?
The Updater prospectus defines a processed move as follows:
In order to understand the top part of the filter in more detail the following questions might be useful:
- Is Updater still using this definition of Move Processed?
- If so, what does it mean that a move “passed through” the Integration Platform?
- Further, what percentage of Moves Processed were actually invited to the Mover Product?
The next step down the Funnel is the concept of Updater Users. Updater recently announced that “it has significantly optimised its User Conversion funnel, with 30-40% of invited Movers becoming Updated Users.”
This statement partly answers the issues above, but it does not answer this question:
- What qualifies as a User? Is this registering an email? Is it entering more detail into the integration platform? Is it enquiring or purchasing products?
A follow up to this question could be:
- What other “North Star” metrics does the company track to understand user engagement with the platform?
Note that Updater has previously announced that it measures the number of features that Users engage with in the Mover Product during their move lifecycle. However, it does not seem to publish this data in detail.
The final part of the funnel relates to conversion rates between users and the transactions that will eventually generate revenue. Encouragingly, Updater have provided some very upbeat data relating to their Pilot Programmes, particularly in relation to the “lift” in conversion. However, making extrapolations between Pilot programmes and actual outcomes is always difficult.
One clarification that would help understand these numbers in more detail is:
- What were the base “user conversion” rates in each programme?
Obviously revenue will be generated as some function of the absolute numbers of user conversions. A 200% lift from a small starting conversion number is not nearly as valuable as a 200% lift from a large starting base.
Question 3 (For analysts/investors) – How confident are you in your funnel forecast?
Sales funnels are intoxicating for analysts. The ability to build a spreadsheet model of the funnel often creates a degree of confidence about the outcome that wouldn’t exist if the forecast was done on the back of an envelope.
The modelling process involves:
- Generating starting assumptions for the various elements of the funnel filter – users/conversions/price per conversion etc.
- This is then dragged and dropped across the page with suitable growth assumptions.
- Finally, the forecast is copied and pasted down the page to reflect the various paid programmes and verticals that the company is targetting.
As they undertake this process, analysts need to ask the following questions:
- Based on what I know about the funnel (see questions above) are my starting assumptions realistic?
- Does the way in which the company presents data (see comments above) increase/reduce my confidence in my starting and forward assumptions?
- Is the timeframe upon which results have been delivered to date (e.g. product launched CY 15, original Pilots announced mid CY 16) reflected in my forecasts about how quickly monetisation will occur?
- To what extent have my forecasts been biased by company guidance and comments?
The Moroccan Bargaining Technique
This last question relates to an experience I had many years ago bargaining for a hat in a Moroccan Bazaar. The vendor offered 20, I haggled him down to 5, thinking I’d won a great deal. I was later told “market price” for the hat was 1.
Pyschologists call this anchoring, where we get attached to the first number (regardless of relevance) that is presented. In the case of Updater, analysts should consider carefully how their forecasts have been impacted by anchors provided by the company. These include various bullish estimates of “revenue opportunities” for “discussion purposes” only.
For example, in building a forecast for the “Pay TV Vertical” has the analyst been biased by the US$85m anchor presented by the company?
Is the resulting “conservative” forecast really equivalent to the $5 bid for the hat?
Question 4 (For analysts/investors) – What will my forecast be worth?
Having carefully considered the above fundamental questions about the Updater sales funnel and built this into a nicely crafted forecast, the next step is to ask:
- What will this forecast be valued at by the market if it does (or does not) come to pass?
As we noted in SaaSy stories Pt I and our top down analysis of these stocks, attracting valuations at large multiples of sales relies both on the quantity of sales growth and its quality. Obviously the quantity is the most important starting point, but analysts should never lose sight of the quality argument.
A first quality screen is that , as noted above, the market will likely value sales growth from acquisition at a lower multiple than organic sales.
A second quality screen is the return on investment from this sales growth. In the most recent quarter, costs accelerated much faster than receipts, despite inclusion of a “cash positive” acquisition. This is fine if revenue growth is delivered.
But what is the end game for cost of revenue acquisition? The Business Products are not traditional SaaS revenue streams. They are more akin to Lead Generating sites or resellers (think $ISU, $CRD, $FIG). Costs of revenue generation in these models is potentially much higher than traditional SaaS models.
What multiple of sales will the market place on an insurance marketing operation generating 50% gross margins versus a SaaS platform at 80% GM?
Question 5 (For analysts/investors) – What will the financial structure of the business look like at this point?
If you’ve got this far in your analysis, there is one final step that might be important.
- Do you understand the implications of this and how it might change over time?
The above is a sample of the questions that could be asked in relation to Updater. They should help clarify the risk and reward around the opportunity. Which way that falls is obviously an individual choice, but hopefully answers to some of these questions might help.