Following the close of trading on July 7, video ad tech platform TubeMogul (NASDAQ:TUBE) filed an updated S-1 with plans to raise $93M by selling 7,187,500 shares at a suggested $13 offering price. This offering puts a $372M valuation on TubeMogul. Less than one year ago, competitor YuMe (NYSE:YUME) priced its IPO at $9 and the stock currently sits below $6 as of July 10. This implies a market valuation of $192M for YuMe.
According to TubeMogul's amended S-1, nearly all of its revenue to date has been derived from advertising served to desktops. Furthermore, I cannot find a breakdown of international revenue and can only assume that it is negligible at this point. In comparison, YuMe has seen triple digit Q1 growth in international. Also, YuMe has generated about 25% of its Q1 revenue from its non-web based platform with mobile and connected television leading this surge. This is a vital advantage to YuMe's future growth as half of the projected $12B US digital video ad spend in 2018 are expected to be mobile.
While TubeMogul put up impressive Q1 2014 numbers, I have to discount them as it is easy to window dress the quarterly numbers in ad tech when dealing with big brand advertising deals. A couple million dollars will make or break TubeMogul's quarter. It becomes a matter of when to recognize the revenues. In front of an IPO you can expect a company to put its best foot forward. It is worth noting that despite a significant YOY gain in revenues for Q1, TubeMogul still lost money.
So focusing on FY2013, YuMe reported sales of nearly three times that of TubeMogul. That is, YuMe's revenues of $151,128,000 for the year compared to only $57,214,000 for TubeMogul in the same period. While YuMe has been operating for 9 years, TubeMogul is in year 7 of its business. YuMe is a profitable enterprise, posting a combined net profit of $6.5M for the past 2 calendar years. In comparison, on only a fraction of the revenues TubeMogul managed to lose over $11M in the same period.
Irregardless of the facts, TubeMogul's IPO is priced at nearly double YuMe's current market capitalization. I have spoken to a number of industry experts, including contacts at prominent hedge funds, and nobody can explain this clear valuation gap. The public seems fixated on gross margins, and that is a surefire way to confuse valuations. While it is true that TubeMogul enjoyed 65% gross margins in 2013, it had a negative net operating margin of nearly 11%.
This compares favorably to YuMe's 2013 gross margin of 46%. However, YuMe managed to show a net operating margin of 1% in the same period. What matters at this early growth stage of any technology company is the ability to be cash flow positive and not lose a lot of money. YuMe has this figured out, TubeMogul does not. Accordingly, there is no evidence that TubeMogul has a viable business model. And as the secular shift to mobile video continues to intensify, TubeMogul has no way to capitalize on this and growth will inevitably slow.
The play here is a simple one. Get long YUME and get short TUBE. Eventually the valuation gap will close as logic ultimately will take over. Based on talks that I have had this week with other investors and institutions, I suspect that this trade will be a popular one. I am not the only one who has this on their radar.
For those interested in proceeding, I suggest that you read my recent YuMe acquisition theory as a precursor to taking a long position in the stock. This July 7 article that I wrote details the current opportunity of being long YUME, absent of the TUBE short pair trade that I am proposing. Keep an eye on TUBE as the IPO goes live next week. I expect the trading to be very volatile from the open given the high level of interest in recent ad tech offerings.
Disclosure: The author is long YUME. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.