We recently spent the last four weeks researching Veeva Systems (VEEV) and its recent IPO. We can tell you that the experience was an eye opener. What we learned about Veeva and the markets they operate in, while interesting and a very compelling part of our investment case, paled in comparison to what we learned about the current state of affairs on Wall Street. We can tell you point blank that had we not read the underwriter initiation reports, we would not have looked twice at this stock. But once we did, the only conclusion we collectively could reach was that...
Tech IPO Underwriting is the New Subprime
It's really hard to argue with this statement. The quality of the work, the sheer inconsistencies and material factual errors, as well as significant omissions and shoddy analysis were just shocking. When you see five underwriters all work off what is clearly a public company's revenue and market share to size a market and then include nothing regarding that company's valuation in their comparables, you open your eyes. But when you realize that these underwriters used the wrong revenues (nearly 200% higher) to do this math, you jump out of your chair. "Ahh, this must be obvious... these 'analysts' will make corrections" might be your response; WRONG. They simply don't care. We know some PMs who went through this experience earlier in the year on a different SAAS name. They noticed these same analysts using the wrong share count by 30% on the stock, and let them know. Conclusion: They will correct this obvious error in their models and the stock target will then be lowered. Instead, they changed the share count and rejiggered their assumptions to maintain their target. In any other industry, this would be deemed flat out corruption. On Wall Street today, it is par for the course. Show the sell-side a glaring mistake, and they will make stuff up to get around it.
To prove this point, we can tell you that in examining Veeva's CRM market size we spent a lot of time looking at their French-listed competitor Cegedim. Since Cegedim has 36% of the global CRM user base vs. roughly 30% for Veeva, we felt this was a prudent use of our time. Well, what we discovered is that one underwriter had overstated their user count by 50% by counting their sole HCP database subscribers as CRM users. The implied global life sciences CRM market share on that number would be 50%. A different underwriter lists them as a "number three" vendor. Pretty ridiculous when you consider 'number three's' CRM user count is less than half of Cegedim's. Another underwriter states that Veeva 'is the clear leader based on users and associated revenues'. Well, it can be 100% verified that at end of Q2, this was clearly a false statement. Even in a best-case scenario at Veeva's Q3, VEEV will still be close on users w/Cegedim retaining a revenue edge. What does that say about the work that went into this? Furthermore, when a co-lead underwriter's report was reviewed in-depth, we determined that everything material published by this co-underwriter on this competitor was factually inaccurate. Moreover, this factually-inaccurate information is clearly what everyone else is working from. How do you reconcile that? Do you point it out to the underwriters? What if you know this had already been brought to their attention?
It is at this point that you ask yourself, what is the point? If the facts don't matter and those seeking the truth are going to be completely dismissed, why bother risking capital on an investment thesis? Violin Memory's (VMEM) IPO was delayed because of the loss of the HP account. A year later Violin goes public with the same risk concerns. Is it a shock that it took less than two months for the stock to blowup? The underwriters launch coverage on that name looks like a Shakesperian masterpiece compared to the stuff we read on Veeva. And Violin Memory is just the tip of the iceberg. Look at IPOs like Chegg (CHGG) or Voxeljet (VJET) and go through those filings... or those of Endurance International Group (EIGI)... and tell us that the machine is not out of control again.
This is no different than what happened in the mortgage market. The Fidelities and Vanguards of the world are simply blindly absorbing this inventory without doing any work. Point anything out to them and you will find nothing but the deaf ears that many other interest-aligned portfolio managers have run into. They simply don't care.
But do not despair, for this too shall pass. At some point the comatose media will start digging into all of this. Perhaps somewhere inside the machine a conflicted individual will come forward and tell a story. This is human nature. Yet, the irony in all of this, is that while the checks are being cut to settle the mortgage mess a very familiar tumor is metastasizing throughout the equity underwriting machine.