Seeking Alpha
Energy, tech, dividend investing, long/short equity
Profile| Send Message|
( followers)

Rarely do you see a stock sell off 50% in a single session. That happened to Tremor Video (NYSE:TRMR) after an amazingly horrible quarter on Friday. While it is virtually impossible to feel pessimistic about internet video advertising, Tremor certainly tried its best to sour your disposition. The entire growth thesis has been thrown into limbo as it seems TRMR has lost its competitive position to the likes of Rocket Fuel (NASDAQ:FUEL). I fear if you try to catch this filling knife you just may get your hand sliced off.

(click to enlarge)

Tremor Video is one of the many "Internet 2.0" companies that generates no profits now, doesn't plan to earn profits next year, but trades at a high multiple on the belief it has serious growth potential for many years that will bring significant profits at some point. In this scenario when you suddenly stop growing revenue while still reporting losses, your stock is likely to suffer. In the quarter, Tremor reported a net loss of $-0.05, but the company had to pay a $16 million preferred dividend, leaving common shareholders with an adjusted $-0.35 loss. Revenue missed analysts' expectations by about $1 million coming in at $35.3 million, for 17% annual growth. Sure, these numbers don't look great, but it is hard to see how they could lead to a halving of the stock.

That is where the guidance comes in. Management is forecasting a 15% sequential drop in revenue to $30 million while analysts were expecting a nearly 10% gain to $38.5 million. Of course, the company will continue to lose money with forecasted EBITDA of no better than -$2 million. This slowdown is totally unexpected because its competitors continue to forecast strong results. Rocket Fuel grew revenue in the last quarter by 132%. Moreover, FUEL's management forecasted 20% sequential growth in the next quarter with revenue of roughly $75 million anticipated. In the third quarter of last year, Tremor was generating 10% more revenue than Rocket Fuel ($30.2 million to $26.9 million). In the fourth quarter of 2013, Rocket Fuel will generate more than twice of Tremor's revenue.

Tremor is losing share to competitors, and as such, it is growing at a much slower rate than its market. A primary reason for this has been the company's inability to crack mobile, which is how more and more consumers access the internet. In this quarter, mobile accounted for 9% of total revenue only marginally higher than its 7% share in 2013. Last year, Rocket Fuel also generated 7% of its revenue from mobile; it now generates 26% of its sales as its mobile, social, and video platform has grown by an astounding 735% year over year. While Rocket Fuel has built a platform for mobile, Tremor remains built mostly for the shrinking desktop browsing market.

Advertisers want to be able to advertise easily on all browsing platforms, and by not having a mobile presence, Tremor's desktop presence is also threatened. Why would an advertiser use FUEL for mobile and TRMR for desktop when it could simply use FUEL for all its online video needs? Based on the revenue trends for these two companies, it is clear advertisers have recognized this and are adjusting their ad spend appropriately.

Analysts have already begun to take down expectations for 2014 with consensus looking for 18% revenue growth while they had been expecting 29% growth prior to the report. I still think this estimate is far too optimistic for a firm that by ignoring mobile has lost its competitive advantage and is seeing revenue growth decelerate and actually decline sequentially. I struggle to foresee how Tremor can start to reaccelerate revenue without significantly enhancing its mobile offerings to better compete with Rocket Fuel, which is in such a better competitive position with an established and popular platform. The plausibility of a turnaround is questionable. I believe the best case for Tremor would be 5-10% revenue growth in 2014, and there is a serious threat of a revenue decline if costumers keep leaving the Tremor platform for competitors.

In addition to already having a successful mobile platform, Rocket Fuel has become the larger player as Tremor coughed up its revenue lead while also maintaining a stronger balance sheet with $125 million in cash to $96 million in cash. Despite this weak competitive position, Tremor trades at 1.8x next year's sales (where I forecast $130 million) while Rocket Fuel trades at 2.97x next year's sales (where I forecast $420 million). While Rocket Fuel is trading at 65% premium, its growth is exponentially faster at 91% versus 5% for Tremor in 2014.

Yet even after the drop in Tremor's stock, it is trading at 2x tangible book value with no earnings power at all unless it grows dramatically. To consistently break even or earn a slight profit, TRMR will need to grow revenue by 17-20% in my estimation. It would have to generate an additional 35-40% in revenue before it could earn $0.47-$0.50 where the stock would have a multiple of 10x. In the meantime to generate that type of growth, TRMR will need to spend massively to reinvent itself into a mobile company that could compete with Rocket Fuel. Even if you believe such a turnaround were possible, that type of earnings power is likely to come at 2017 at best.

I cannot recommend buying the stock in a company that still trades like a growth company, even after being halved, and cannot generate notable earnings power for another 4 years. In the internet 2.0, a company can only thrive when it has exposure to and can monetize mobile browsing. Its inherently mobile nature is a major reason why the Twitter IPO (NYSE:TWTR) was so in demand, and Facebook's (NASDAQ:FB) ability to monetize mobile is the driver behind the turnaround in its stock this year. Tremor has barely been able to grow its mobile share of revenue and is seeing sequential decline in revenue, suggesting its days of double-digit revenue growth could very well be in the rear view mirror as the company accedes its leadership in online advertising to Rocket Fuel.

Ironically, the TRMR quarter sent shares of FUEL down 20% in sympathy. In reality, the horrible guidance is a sign of FUEL's dominance thanks to its explosion in mobile. There is absolutely no compelling reason to buy TRMR at current prices as its growth prospects are murky if not gone as it has failed to adapt its platform to new browsing patterns. I would far rather pay a premium for FUEL and buy its shares after their decline as a bet on online advertising. TRMR's future profitability is many years away at best and is a growth stock that will fail to grow your portfolio. I would sell shares even after their recent decline.

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.

Source: Major Tremors At Tremor Video