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Rocket Fuel (NASDAQ:FUEL) made its public debut on Friday, September 20. Shares of the artificial intelligence and big-data driven predictive modeling company ended their first day with gains of 93.4% at $56.10 per share.

While the valuation has more than doubled during the IPO process, the long-term prospects look good and the valuation is somewhat justifiable given the stellar growth rates.

I remain on the sidelines for now, with a long bias.

The Public Offering

Rocket Fuel is a technology company focused on the large and still growing digital advertising market. Its predictive modeling and automated decision making platform addresses the need in markets in which rapid change and volumes overwhelms human capacity to make good decisions.

Rocket Fuel sold 4.0 million shares for $29 apiece, thereby raising $116 million in gross proceeds. All shares were being sold by the company. If the over-allotment option will be exercised by the underwriters, selling shareholders will offer another 600,000 shares.

Bankers and the firm set an initial price range of $24 to $27 per share. Given the strong demand, the price range was upped to $27-$29 per share, while the final pricing occurred at $29 per share.

Some 12% of the total shares were offered in the public offering. At Friday's closing price of $56.10 per share, the firm is valued at $1.82 billion.

The major banks that brought the company public were Credit Suisse, Citigroup (NYSE:C), Needham & Company, Oppenheimer & Co, Piper Jaffray, BMO Capital Markets and LUMA Securities.


Rocket Fuel notes that tens of billions of daily trades occur on digital advertising exchanges, more than the number of trades that occur at the Nasdaq and the NYSE combined.

The company's Artificial Intelligence system buys ad spots, or impressions to create portfolios of impressions, which optimize the goal of advertisers at the best possible rates. The company has run many successful advertising campaigns already and the market is set to show further solid growth. According to MANGA GLOBAL, all kinds of digital advertising combined are expected to grow from $42 billion in 2012 to $73 billion by 2016. These claims can be found in the S1-Filing.

With very little configuration, Rocket Fuel's platform can run multiple advertising campaigns with completely diverse goals.

For the full year of 2012, Rocket Fuel generated revenues of $106.6 million, up 138.7% on the year before. Net losses increased from $4.3 million to $10.3 million in the meantime.

Revenues for the first six months of 2013 rose by 133.8%, to $92.6 million. Net losses continued to widen as well, increasing from $2.5 million to $11.9 million.

Rocket Fuel operates with $22.0 million in cash and equivalents. The firm has $21.9 million in total debt outstanding. Factoring in the gross proceeds of $116 million from the public offering, and Rocket Fuel should operate with a net cash position of little above a $100 million.

As such, Rocket Fuel's operating assets are valued around $1.72 billion, the equivalent of 16.1 times last year's annual revenues.

Investment Thesis

As noted above, the offering of Rocket Fuel has been a great success, after shares have witnessed solid first-day returns.

Shares were already offered some 13.7% above the midpoint of the preliminary offering range. After witnessing opening-day returns of over 93%, shares are trading with gains of 120.0% above the midpoint of the guided price range at the moment.

Rocket Fuel has seen phenomenal growth after being founded in 2008. It currently has some 784 customers, which are being served by a staff of 405. Its infrastructure has grown and has the capacity to make tens of billions of computations a day, optimizing its offerings.

Yet there are obviously some risks as well. Interestingly enough, Rocket Fuel sees competition obviously as a risk, but increased internet regulation with regards to cookies and tracking systems are a threat to the business model as well.

Revenue growth remains impressive, as growth rates for the first half of 2013 only came down slightly to 134%. Actually, revenue growth accelerated slightly towards 137% in the second quarter of the calendar year of 2013. Gross margins ticked up by 270 basis points in the first half of the year compared to a year earlier, reaching 46.4%. At the same time, total operating expense rose by almost 5 percent points to 55.9% of total revenues. Note that profitability saw a decent improvement in the second quarter, as net losses narrowed from $8.1 million in the first quarter to $3.8 million.

Actually, given all this information I like Rocket Fuel's prospects more compared to some other IPOs in recent days. The $1.8 billion valuation, values the company at 9 times estimated revenues for the year, as full-year revenues of $200 million should be attainable. While the company will most likely report full year losses on the back of the public offering related expenses, the company is approaching profitability rather rapidly at the moment in time. This is even after the company paid out some $8.5 million in total compensation to its three top executives over the past year.

Given the very solid growth rate and the fact that profitability is within reach at the current pace, Rocket Fuel might be an interesting candidate. If the company can maintain 100% growth rates for merely two years to come, revenues of $800 million in 2015 should be attainable. This looks rather nice compared with today's $1.8 billion valuation, and given the improved operating performance.

I remain on the sidelines for now, but will do further research on the firm before more seriously considering a long position.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.