On December 1st, 2014 I published my analysis of United Online (UNTD) titled "United Online Faces Uphill Battle Against Competition" (PRO subscription required). While it's the first time I've written about UNTD publicly, it's a stock I've followed since 2008. Essentially my argument was UNTD competes in businesses like social media and telecom - and consequently faces an uphill battle against competition.
Since then the stock is up over 20%, including a fairly healthy move to the upside after UNTD recently reported Q4 and FY 2014 earnings. Clearly the market isn't nearly as skeptical about UNTD's ability to compete in its markets, so let's first take a look at some of the balance sheet items that might have investors jumping on board.
Source: UNTD
Revenues were down, and the company guided 2015 to be in the $214m-222m range, so it could be another down year ahead. Despite some re-positioning of the MyPoints brand, the continued growth of 4G mobile broadband, and a new cell-phone brand - the company kept costs in check for the entire year, a sign of disciplined management.
From an operating loss standpoint it looks like UNTD made massive improvement, but keep in mind the $55.44m impairment charge was a balance sheet/intangible item tied to MyPoints - and not actual cash.
Breaking down 2014 revenues gives you a clearer view of how UNTD is performing under each segment UNTD operates under. First is the communications segment, which includes the NetZero dial-up, mobile broadband & new cell-phone service.
Source: UNTD
While the ~2% growth rate might not seem rather impressive, according to the CEO on the most recent conference call, "this is the first time this segment has seen growth in revenue since 2008." The growth in revenue was primarily attributed to the growth in mobile broadband, a sign that the company's marketing efforts are effective.
United Online has done a nice job leveraging the NetZero brand in a transition into a mobile-broadband provider courtesy of a partnership with Sprint (S). The margins are higher and there's far less competition in the legacy dial-up business; but it doesn't take a genius to figure out that business model will continue to fade. So kudos to UNTD for pivoting into 4G/hotspot services that appears to be working at least from a revenue generation standpoint.
In terms of the cell-phone service, United Online is entering an even more competitive landscape and is still in 'soft launch' mode. Management indicated that a more extensive launch of this product won't happen until the "second half of this year" if all goes according to plan. The challenge with the cell-phone is the company needs a unique selling point (USP), much like "free internet" was NetZero's USP during the dawning of the internet. According to management, the company is in the process of testing various offers.
Overall, UNTD has managed this side of the business well. I still have some questions about the long-term future - especially because UNTD relies on a partner for access to the 3G/4G spectrum it uses. Secondly, as an investor - if I'm going to invest in UNTD because of mobile broadband growth... why wouldn't I just invest in UNTD's partner Sprint, or another provider like Verizon (VZ) or AT&T (T)?
The Content & Media side of the business paints a slightly different picture. Revenues were down across the board as the company saw paid membership declines on Classmates.com - a trend I believe will likely cause the company to restructure that business (more on that later).
Over the past year, UNTD has been repositioning MyPoints and launched a mobile app for the website. I've been playing around with the app, but I'm likely not the ideal customer for MyPoints. Essentially it's a rewards app where United Online is simply sharing a portion of the affiliate revenue it earns when you shop with one of the partnering merchants. The barrier for entry into this space is relatively low, however to reach the scale of MyPoints & other competitors is somewhat difficult. Personally I see MyPoints benefiting UNTD more on the customer acquisition side rather than a massive revenue generating business model. UNTD can (and does) cross-sell things like its cell-phone, mobile broadband service, new mobile apps, etc ... and really jump start something new faster than a startup competitor would be able to do.
As for Classmates.com - like the dial-up internet business, I'm frankly impressed people actually pay United Online for the right to use all of Classmates features, even if the paying user-base is shrinking. That being said, if you are (or plan to be) a long-term shareholder of UNTD, the possibility of a revenue shift for the Classmates brand is likely at some point. In my previous article I actually give some ideas on the different ways Classmates could monetize users, so I won't go over specific details again - however I believe UNTD will need to shift the model toward something other than a subscription model.
The good news is UNTD has plenty of cash in the bank, and is increasing the cash level on hand - so the most exciting thing will be to see what UNTD decides to do with that cash.
Like 4G mobile internet has helped revenue growth in the Communications segment of the business, UNTD could use a fresh product on the Content & Media side to spur the next level in company growth. On the most recent conference call, management announced 2 different websites/apps the company has been working on.
List+
Currently in closed beta testing, the company has a video and a website that describes the service in more detail. It's hard to judge the success of these types of things, but based on the financials - it doesn't appear United Online spent a tremendous amount developing List+ (Technology & Development costs were actually down $5m YoY). The business model appears UNTD would earn money similar to how it does with MyPoints - on affiliate commissions based on a percentage of sales to the partner merchants. Ultimately it might be better for UNTD than MyPoints if there's no reward or kick-back to the consumer and UNTD keeps 100% of the sales commissions.
Swappable
United Online already has experience in the gift card space given it's the reward most users use MyPoints for. Consequently, the company plans to incorporate these two sites to a certain degree. UNTD claims to have a patent-pending feature on the website that allows users to swap a gift card they receive for one from a different retailer - hence the name Swappable.
Recently, the website Raise.com raised $56m in funding with a valuation of $500m - so there's some investor appetite in this space if the Swappable website starts to grow.
But to give you an idea how management is looking at these new initiatives is they are just tests to see if they can gain traction. The CEO put it pretty bluntly in the Q&A session on the recent conference call:
We've got these products. Now, if tomorrow we find the gift card app doing very well and List+ isn't, we'll focus on gift cards.
To which he later added,
I'm going to be honest, guys, the spaces we're working on, we need one of them to really work.
I agree, but what was also pointed out is United Online has the financial runway to test these things, and if they don't work out, the worst that can really happen is UNTD is stagnate for another year.
Valuation
My previous analysis of UNTD back in December mainly focused on competition, and I believe that's the main risk going forward with UNTD. However, on the playing fields it competes (social media, loyalty shopping and telecom) even a minor player can scrape out some profits as UNTD has proven it can do for many years.
Currently the market values UNTD at around $222m, which is roughly around what the company did in revenues for the FY 2014, and it's the top-end range of guidance provided by the company for FY 2015 revenues.
On a cash basis, UNTD has roughly $5.58 per diluted share or $79m which is up $19.5m over the previous year. New initiatives such as the mobile phone service, List+ & Swappable websites seem to not drain company resources much at all... but it's still in the early stages for these business units.
Outside of the common shares appreciating, United Online could generate value for shareholders by selling segments of the business, but I don't believe this will materialize anytime in the near future. For starters, I don't see UNTD getting a premium valuation for any of its properties given segment pay accounts across the board are down YoY.
Additionally, past deals for similar properties haven't yielded premium valuations. For example, in 2011 MySpace.com sold for $35m when estimates claimed the site would earn roughly $183m in ad revenue on the year. Certainly Classmates.com, a site that generates a fraction of that kind of revenue, would be valued in a similar fashion. MyPoints valuation would be tied to active users and total merchandise sales - which management has indicated is around $200m for the year. In 2014 Ebates, a similar buying reward/affiliate site, sold for $1b after reporting $2.2b in purchases the prior year. Finally, wireless provider Leap Wireless was bought by AT&T in 2013 for $1.2b when Leap recorded $2.9b in revenues in 2013. UNTD just recorded $103m in revenues for the 2014 year on the communication side, but the key difference between UNTD and Leap is one owned spectrum & had retail store space, and one does not.
With 2015 guidance coming in essentially flat, UNTD management has set the bar considerably low... so I would be careful to give management credit if/when they beat these conservative targets. In essence, management is giving itself a free call option if one of the new initiatives described above takes hold, and will fall back on 'hitting the (conservative) targets' if unsuccessful.
Bottom line, the market cap = FY revenue valuation probably isn't too far out of line given the healthy stack of cash the company has. Personally, I don't buy stocks because of cash on the balance sheet - especially if there's no dividend. I like to invest in growth & net income generation. At the end of the day, UNTD is a little fish in every pond it plays in outside of dial-up internet access. Given that the only way for me to personally benefit from UNTD's growth is to hope the share prices increase (despite declining revenues & increasing share count) I don't see a compelling reason to buy shares today. The new initiatives are worth monitoring, but I doubt UNTD shares stretch much from the current valuation. A more conservative strategy would be to wait until confirmation is made UNTD will be successful launching new websites/apps/services before making a significant investment.
