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Millennial Media (MM), a mobile advertising company, is down 69% since its IPO in 2012 and has not had a single profitable quarter since going public. It could be a great addition to your portfolio.

Background

Millennial Media provides a platform (set of software tools) for developers to monetize their apps and learn information about their users, and for assisting advertisers in reaching users on mobile devices. More than 45,000 apps are already enabled to receive ads through Millennial Media, and with a universe of a million available apps and counting, there appears to be plenty of room for growth.

The market for mobile ad spending is growing at a phenomenal rate, and Millennial Media's revenues reflect that. Revenues ($212M ttm) grew 116% from 2010 to 2011, 71% from 2011 to 2012, and are on track for 40% growth this year. Furthermore, the growth is almost entirely organic: Goodwill and intangible assets are less than $14M out of $205M total assets, $123M of which is cash. Millennial Media is also experiencing a lot of revenue growth from existing customers, which suggests that its customers are pleased with the product. Stockholder equity is $164M, and the company has no long-term debt.

With such a strong balance sheet, Millennial Media's failure to turn a profit thus far presents no immediate danger. Its burn rate this year is on track for around $12M, last year was $6.7M, 2011 was $5.3M, and 2010 was $10M. If you suppose that Millennial Media could burn $25M per year going forward (taking Jumptap's losses into account), it would still have five years before running out of cash, assuming they don't raise money or open any new lines of credit before then.

With this in mind, it is not entirely unreasonable that Millennial Media's management is more focused on expanding the business and gaining market share in a competitive domain rather than pinching pennies to raise its bottom line by a few percent. While Millennial Media will have to achieve profitability at some point, it is not yet an immediate concern. As Millennial Media grows, its SGA expenses should eventually be outpaced by increasing revenues, leading to profitability.

Jumptap acquisition

On its latest earnings call, August 13th, Millennial Media announced that it was acquiring Jumptap, another mobile advertising company. The deal, expected to close Q4 2013, will give Millennial Media a 28.7% share of the US mobile advertising provider market, making it the second-largest, just behind Google with 29% and ahead of Apple with 14.8%.

Jumptap had 2012 revenues of $63M, with a net loss of $13M, and experienced revenue growth of 49% from 2011. The deal is also expected to give Millennial Media pro forma revenues in the vicinity of $345M, which would mean 94% revenue growth for 2013. Assuming Millennial Media is on track for 40% growth this year without Jumptap, that means that Jumptap would be on track for $96M revenue this year, or 52% growth.

Jumptap has apparently raised $122M in funding from investors, so it is possible Millennial Media will be adding some more cash to its business along with more revenue, but it is unclear just how much Jumptap has already spent. The deal is also expected to save Millennial Media $20-25M in synergies by 2015, meaning that it could actually push them into profitability.

Millennial Media acquired Jumptap by releasing 24.6M new shares of itself to Jumptap, plus up to $12M cash to unspecified Jumptap employees (which will be subtracted from the number of new shares released). There will also be a one-time integration cost to the transaction of $13M. Millennial Media already had 81.3M shares outstanding, so adding in the 24.6M new shares diluted the stock 23%. On this news, Millennial Media's stock fell 19% from $8.50 to $6.90, and at the time of writing the stock is sitting at $7.75.

Post-acquisition analysis

Millennial Media had a pretty strong Q2 2013: Revenues rose 16% from $49M to $57M, while net losses fell from $3.7M to $3M. After taking stock dilution into account, Millennial Media's market cap actually rose 5.8% from $691M to $731M, and has since risen to $821.5M. This indicates some renewed optimism from investors.

Since Millennial Media's revenues are significantly increased after the acquisition, it is not reasonable to assume that its market cap would remain constant; however, we can determine how much its share price would have to rise for its P/S ratio to remain constant.

Before the acquisition, Millennial Media was selling for $8.50/share, and with 81.3M shares outstanding had a market cap of $691M, and with ttm revenues of $212M had a P/S of 3.26. Estimate Jumptap's ttm revenues to currently be: $63M(1.52)(3/4)+$63M(1/4)=$88M. Millennial Media then has pro forma ttm revenues of $212M+$88M=$300M, so its new P/S is 2.74, and to increase to 3.26, Millennial Media's share price would have to rise 19% to $9.22.

Alternatively, consider Millennial Media's projected pro forma revenues for 2013: $345M. If Millennial Media still has a market cap of $821.5M by the end of the year, then its P/S ratio would be 2.38, meaning that its share price would have to rise 37% to $10.61 by the end of the year to reach 3.26 (but probably wouldn't until early 2014, when the 2013 10-K is released).

Projection for 2014

Given the assumptions already made, Jumptap is on track for 52% growth and $96M revenue for 2013, while the rest of Millennial Media is on track for 40% growth and $249M revenue. Assuming (somewhat conservatively) that Jumptap grows another 40% next year while the rest of Millennial Media grows 30% in 2014, that would give Millennial Media combined revenues of $458M for 2014.

If Millennial Media's market cap were to remain constant at $821.5M, then its P/S ratio at the end of 2014 would be 1.79, so for the P/S ratio to rise back to 3.26, the stock price would have to rise 82%, assuming no new shares are released.

If Millennial Media achieves profitability before then, it could see a market cap similar to or greater than the market cap at its IPO, when investors were probably expecting the company to take a faster route to profitability. Since Millennial Media's market cap at its IPO was $1.645B, that would mean a doubling in share price. Furthermore, Millennial Media's revenues in 2011 were $104M, while its revenues in Q1 2012 were $33M, so if ttm revenues at the IPO were around $111M, then Millennial Media's P/S ratio at its IPO would have been around 15. If Millennial Media ever reaches a P/S of 15 again... well, it doesn't take much arithmetic to see that that would be quite profitable.

Conclusion

Millennial Media is approximately 19% undervalued, given its P/S immediately before the Jumptap acquisition. Millennial Media's stock has been unduly punished over the last year for a relatively harmless burn rate, and may also have suffered by association with the severe financial troubles its competitor Velti (VELT) has experienced.

Looking ahead, Millennial Media's stock could rise 82% from here through 2014 and even higher if it achieves profitability ahead of schedule. For a patient investor willing to keep a watchful eye on Millennial Media's revenue growth and bottom line going forward, it could be an excellent investment.

Source: Millennial Media Has Significant Upside After Jumptap Acquisition