Ebix (EBIX) has been getting lots of attention in recent months due to Gotham City's short posts and SEC investigation. However, I think during times like these it is important to take a step back and think about the possible outcomes. Fundamentally, EBIX is a high quality business with strong, recurring free cash flow and minimal capex needs. This favorable annuity-style free cash flow stream allows EBIX to return significant capital to shareholders. EBIX currently yields 3.2% and repurchased $118MM of stock since 2008 or 34% of current market cap. At today's price, EBIX trades at just 5x FCF or a 20% FCF yield. Now let's work through some math on the valuation.
Bull case (25% probability): Investigation results in no issues, EBIX fixes corporate governance issues, and management and the board can refocus on organic growth and finding accretive acquisitions. In this case, I expect EBIX to trade back to its historical average P/E multiple of 15x. On 2013 street EPS of $1.87, EBIX is a $28 stock.
Base case (50% probability): Investigation finds some corporate governance issues, possibly even Raina departs or is removed from his CEO role. In this case, the strong free cash flow will not be adversely impacted because 90% of revenue is recurring. Corporate governance issues should slowly be repaired over time but the company's reputation with investors will be damaged which would likely cause lower-than-historical multiples. In this case, I value EBIX at 10x P/E which results in a $20 stock price. 10x is the historical trough P/E before the recent transaction was cancelled.
Bear case (25% probability): Investigation results in material misstatements of financials and the company needs to restate historical financials. In this case, EBIX will likely trade to 4x P/E (severe haircut) while the company is in the restatement period which could take as long as 12-24 months. This values EBIX at $7.50. Even in this case, EBIX's software platform still generates substantial FCF and is a high quality business which could be sold to private equity so there little chance that EBIX is worth 0 in my opinion.
I estimate EBIX's fair value based on the above scenarios and probabilities at $19 (110% upside). The margin of safety lies in the strong underlying free cash flow that the business generates and the company's ability to repurchase stock and increase the dividend. Buying at just 5x FCF, over a 50% discount to fair value provides a significant margin of safety.
EBIX's story is very similar to Herbalife (HLF) over the last six months. A short seller created and presented a presentation on why HLF was a fraud, citing some valid issues, but over exaggerated his points. The stock fell 44% to $25. At the trough, HLF traded to 5x P/E, exactly where EBIX is now trading. The company used the opportunity to repurchase stock which was highly accretive. In the next month, HLF subsequently rebounded 80% back to its price prior the short seller's presentation. I expect similar price action from EBIX and recommend investors with a 3-6 month time horizon accumulate EBIX shares at these bargain prices.
Before investing, be sure to read the allegations by short sellers, recent events surrounding the GS transaction and cancellation, and various investigations.