Earnings Analysis: Why OpenTable Is Still A Hold [View article]
From 1988 until the year 2000, Microsoft was the greatest wealth creation engine in the history of publicly-traded equities (only recently surpassed by Apple). And during those 12 years, Microsoft engaged in exactly the kind of options-issuance / share buy-back activity we're discussing right here, except that Microsoft never actively discussed their buy-back activities - the company's prodigious cash flow made it practically a rounding-error in their share count calculations.
In 2004, Microsoft made a big splash by "announcing" a major share buy-back (simultaneous with initiating a dividend) but those of us who knew the company well knew the size of the buy-back was barely larger than the amount of shares they'd been buying back on the sly for over 15 years.
My point: this practice goes on at great companies and bad ones and my experience is that it is rarely determinative in a company's ability to generate alpha. What matters ultimately is having a transformative product or service and a large and receptive market. I don't think OPEN fully possesses both of those characteristics (service and market) but it is definitely above-average on both measures, which is why it is a company worth following, if not yet worth investing in.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
I did not write that new options issued are worthless. I wrote that virtually any options issued within the past twelve months would expire worthless, if the share price doesn't rise from here, because they have strike prices above the current level.
And actually, if those options expire, they won't ultimately convert to shares, which would be accretive to earnings per share, which would be a positive influence on the stock price.
Not sure where everyone's hate is coming from, and I've got a Hold on the stock, not a Buy. What, did OpenTable lose your reservation?
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
I agree: it's easy and deceptive for management to grant a lot of stock options to themselves, and then cover the GAAP dilution by buying in stock. But everyone knows this is going on. It went on for years and years at Microsoft and virtually every other Valley company. But it's not a predictor of future health; cash flow growth and market share are the real signals.
Personally, I'd rather they bought back stock, than did a bunch of acquisitions. The lower share count is more accretive and less disruptive than integrating companies.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
The 22 forward P:E is from Yahoo Finance; the table is populated with YF's forward P:E for all seven companies, to create an apples-to-apples comparison. In some cases (OPEN is one) the data is in flux because the company has just reported earnings. I have tried to update the data where possible.
In this case, YF chose to use the 2013 earnings figure (even though they identify it as 2012). The gold standard would be forward 12-month EPS, or roughly $1.66. Which yields a forward P:E of 26.5.
I do the cash flow analysis precisely to avoid arguments around GAAP or non-GAAP income statement accounting.
I don't use price targets because they are unwise: it requires you to not only assess what valuation the market will apply to your estimated earnings, but also guess the date on which it will apply. Price is always and everywhere a function of supply and demand, and unless you're prepared to predict those two things quite accurately, and for a given day, then you have no hope of predicting a price.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
I'm sorry, but you're wrong about DCF models and non-GAAP numbers.
As I wrote in the piece, "DCF models have their flaws." However, using non-GAAP numbers isn't one of them.
DCF stands for "discounted cash flow," and my DCF calculation uses the cash flow numbers straight from OPEN's SEC documents. In turn, these cash flow calculations start with the GAAP Net Income for a given period. For example, if you look on page 55 of OPEN's 2010 10-K:
You'll see that their GAAP Net Income for all of 2010 was $14,079,000.
Now look at the Statement of Cash Flows on page 57 of the 10-K. You'll see that for 2010, the Net Income figure at the top of the column is ...$14,0079,000. Which by the way is much lower than the non-GAAP Net Income figure of $20,776,000 arrived at in the reconciliation section of their earnings release:
So I'm already using lower, more conservative, GAAP numbers in my calculation.
As to your point about the number of shares, I agree, at least in part. It's true my calculation doesn't adjust for a change in share count going forward. But the point of a discounted cash flow is you're "bringing back" all future cash flows, and dividing them up among the current shareholders - you're not supposed to adjust the share count in future periods.
As for stock-based comp dilution - yes that might be a problem, but consider that the majority of employee options expire worthless, because the employee either leaves (or is fired) before the options vest, or the options were issued when the share price was much higher. Think of OPEN: a great many of the options issued in the past 12 months have strike prices much higher than the current share price. They're worthless, and won't be worth anything unless the share price climbs materially from its current $45 level.
If you want an easy, real-world indication of just how much option dilution is possible with OPEN, just compare the fully-diluted share count at 12/31/11: 24.094m with the basic share count: 23.509m.
There's only a 2.5% difference, which doesn't portend a whole lot of dilution in the future.
Lastly, I don't know what you mean by, "OPEN has plans for dilution." I'm unaware of any shelf registration of shares for future sale. Care to elaborate?
Red Hat: A Software Investment For The Next 30 Years [View article]
Actually, 22% is a typo, it's 26%: the relevant numbers are FCF of $48.366m in FY 2004 and $311.655m in FY 2012 (including an estimated figure for the current quarter). Divide the latter by the former, and then put the result to the 1/8th power and subtract one.
VMware is interesting, and as I note after the valuation table, it has a higher cash flow margin and a lower forward P:E multiple than RHT.
What VMware has going against it, is that it already has 85% market share of the virtualization market, meaning it can't really grow by taking share. Instead, it's reliant on market growth. Yes that's a big market, but so was PC networking back in the day, and then it flattened out. Which left a hugely dominant player, Novell, high and dry. And I can assure you that Novell didn't carry around a 35 forward multiple for the last 10 years of its public existence. And there weren't open source alternatives to Netware, whereas VMware has Open Source competition, including Red Hat.
Whereas with Red Hat, they've got somewhere around 4% market share in their primary markets, which means they have a much longer "runway." And thus the ability to grow at 20-30% annually for many many years to come.
As for "in-sourcing," you're right: plenty of Red Hat customers already do it, and that's one reason why the average subscription length is less than two years. But enough customers don't because this kind of enterprise-class computing is a career call for the IT managers who make the decision: you're supposed to get it right, and you'll be toast if you get it wrong. So staying "on the reservation" is a strong motivation to keep paying the subscription fee. And there will always be a steady flow of that type of customer: IBM owes its existence to them.
Skip Buying RedHat, Pick Up Microsoft Instead [View article]
"Apple is proving to be a continuous challenge to RHT, GOOG and others. Apple's Mac OS is one of the easiest to use and most well known systems on the market. "
This isn't quite right: Apple does not compete with Red Hat in any meaningful way. Red Hat markets enterprise-class operating systems and middleware - Apple doesn't.
For an accurate and more complete view of Red Hat, see our Seeking Alpha research piece published just last week: http://bit.ly/wJZ7y0
Another of your statements, "Apple is scheduled to release fiscal 2012 first quarter results tomorrow after the bell and may well deliver" is incorrect: Apple reported two days ago on Tuesday the 24th.
Red Hat: A Software Investment For The Next 30 Years [View article]
You're right about the math. But five years ago, the idea of having essentially zero short-term Treasury rates would have seemed impossible - yet we've now had three years of just that. How long will it last? I agree: probably not forever. But perhaps 2% is the new 5%, if you catch my drift: we may have had a generational change.
Yes, the high DCF valuation may seem at odds with the stock price, which already has a high P:E valuation. But I do DCFs as a real-world reality check; and if IBM was considering buying Red Hat (a frequent rumor) then they'd be doing a DCF of their own to gauge how dilutive or accretive a deal would be.
Very very few service-oriented, subscription-based companies have 33% operating cash flow margins and relatively low capital needs. Red Hat is such a company. Which explains the 40 P:E. But it also explains (via the estimated future cash flows in the DCF calculation), the triple-digit DCF value.
And as I note in the piece, even if you jump the discount rate up to 9%, you still end up with a DCF value higher than the current share price.
Red Hat: A Software Investment For The Next 30 Years [View article]
My "safe as houses" comment was simply a literary nod to my opening paragraphs about replacing a foundation. Equity investments always have non-zero risk - just like home ownership.
You are right: software - even foundational software like operating systems - gets replaced. In fact, ample industry research shows that seven years is the average replacement cycle period. But this cycle is unlikely to shorten because even if the customer isn't completely satisfied with their system, the time and expense (for installation, training, data conversion, etc.) is so onerous that buyers generally "tough it out" until they've amortized the expense. These cycle dynamics have been constant since the 1960s and I don't believe the move to cloud computing alters it.
And Red Hat too is branching out, first to middleware, and now to virtualization and data storage.
Lastly, don't forget, that clients can be happy and replace what they've got with an upgraded version from the same vendor. And with a subscription- based model, the client has that option essentially at all times.
Red Hat: A Software Investment For The Next 30 Years [View article]
Thanks for your kind words. Actually, I too would like to see an up-to-date analysis of SUSE in their current corporate incarnation. My analysis did seem to show that Red Hat is slowly taking share from SUSE, but the larger picture shows both companies taking business from the traditional proprietary software vendors.
If I were on SUSE's board or the point person at Attachmate minding their investment, I think I'd be encouraging SUSE to distinguish themselves more clearly in the marketplace. The market is large and growing quickly enough for SUSE to survive and thrive, but only if they are able to be something other than the Avis to Red Hat's Hertz.
Maybe it's in ultra-large scale deployments or supercomputing. Maybe it's in "big data." But it needs to be distinct. Not necessarily so they can go toe-to-toe with Red Hat, but so their development ecosystem and their sales force can address the opportunity pro-actively, rather than being, "the other guys" in a bake-off vs. Red Hat.
Red Hat: A Software Investment For The Next 30 Years [View article]
"Immaculated?"
Not sure I know what that means.
But what I meant by "-for-the-next-thirty-... reflected the larger trends favoring Open Source in general and Red Hat in particular. If you read my piece (it's not clear you did) then you'll understand this point.
It's not about whether Red Hat will "beat the numbers" in the next quarter - as I note in the article, it would be hard even if they wanted too: 85% of revenue is subscription and therefore knowable.
It's about Red Hat having only 3-4% market share in two multi-billion dollar markets and growing much faster than their competitors. No lead lasts forever, but most of Red Hat's competitors don't even understand how to successfully commercialize open source software, let alone are doing so.
It's true that many technology leaders from 30 years ago aren't even around today, let alone were good investments for that three-decade stretch. But those that survived and thrived (e.g. IBM, Apple, Microsoft) did so because they always generated cash, even during very fallow stretches (see IBM and Apple). This steady stream of cash allowed them to tinker with their business models until things clicked again.
I'd certainly bet on Red Hat vs. Google over the next 30 years. Google is and will remain just one good competing search algorithm away from...becoming MySpace. But as I noted early on,, once Red Hat's software has become the foundation of your enterprise computing environment, it will be very hard to dislodge them. And for the last 20 years, Red Hat hasn't given its customers many reasons to do so.
LinkedIn May Find Itself LinkedOut Before Long [View article]
I agree that expecting the stock to return to the $80-$100 range is unlikely, based on the company achieving or even slightly exceeding current analyst targets. What I think will happen is the company will meet expectations, but owing to the law of large numbers, will need to guide future expectations lower. And the stock's valuation, with its current forward P:E of 125 or so, will start contracting pretty rapidly. Take a look at OpenTable's chart over the past year: another dominant company whose revenue growth is only turning out to be good, not great. OPEN has lost 2/3rds of its value in six months.
NIC Inc.: A Dominant Player In Government e-Services [View article]
I agree, and given that budget pressures are almost eternal, the trend seems likely to continue. I kind of soft-pedaled EGOV's Federal opportunity, because it's only getting started. Federal is a large, but different because the "transactions" through which EGOV (or any outside vendor) get paid are more often department-to-department than department-to-citizen. Most retail interaction with government is with state (and local) government; less so with Federal agencies.
My fantasy is to find the Indian company bringing that country's massive, people-intensive bureaucracy on-line. Now THAT is an investment opportunity!
LinkedIn May Find Itself LinkedOut Before Long [View article]
As a stock, LinkedIn has plenty of issues, starting with its triple-digit valuation for a company that is not making money and whose forward earnings estimates had to be revised downward after its recent earnings release.
I went over these issues in my SeekingAlpha report about 10 days ago: http://bit.ly/vDLLpA
But as a company, LinkedIn is dominant and your "drive-by" report on "Identified" won't worry anyone at the company. I would suggest you ponder how LinkedIn came to its dominance and the multi-million hour investment that LinkedIn members have made in posting and curating their information. While the lesson of MySpace is that no lead is safe, it will require more than a "tag-you're-it" type of social network to unseat LinkedIn.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
In 2004, Microsoft made a big splash by "announcing" a major share buy-back (simultaneous with initiating a dividend) but those of us who knew the company well knew the size of the buy-back was barely larger than the amount of shares they'd been buying back on the sly for over 15 years.
My point: this practice goes on at great companies and bad ones and my experience is that it is rarely determinative in a company's ability to generate alpha. What matters ultimately is having a transformative product or service and a large and receptive market. I don't think OPEN fully possesses both of those characteristics (service and market) but it is definitely above-average on both measures, which is why it is a company worth following, if not yet worth investing in.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
And actually, if those options expire, they won't ultimately convert to shares, which would be accretive to earnings per share, which would be a positive influence on the stock price.
Not sure where everyone's hate is coming from, and I've got a Hold on the stock, not a Buy. What, did OpenTable lose your reservation?
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
Personally, I'd rather they bought back stock, than did a bunch of acquisitions. The lower share count is more accretive and less disruptive than integrating companies.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
In this case, YF chose to use the 2013 earnings figure (even though they identify it as 2012). The gold standard would be forward 12-month EPS, or roughly $1.66. Which yields a forward P:E of 26.5.
I do the cash flow analysis precisely to avoid arguments around GAAP or non-GAAP income statement accounting.
I don't use price targets because they are unwise: it requires you to not only assess what valuation the market will apply to your estimated earnings, but also guess the date on which it will apply. Price is always and everywhere a function of supply and demand, and unless you're prepared to predict those two things quite accurately, and for a given day, then you have no hope of predicting a price.
Earnings Analysis: Why OpenTable Is Still A Hold [View article]
As I wrote in the piece, "DCF models have their flaws." However, using non-GAAP numbers isn't one of them.
DCF stands for "discounted cash flow," and my DCF calculation uses the cash flow numbers straight from OPEN's SEC documents. In turn, these cash flow calculations start with the GAAP Net Income for a given period. For example, if you look on page 55 of OPEN's 2010 10-K:
http://1.usa.gov/wzaBlN
You'll see that their GAAP Net Income for all of 2010 was $14,079,000.
Now look at the Statement of Cash Flows on page 57 of the 10-K. You'll see that for 2010, the Net Income figure at the top of the column is ...$14,0079,000.
Which by the way is much lower than the non-GAAP Net Income figure of $20,776,000 arrived at in the reconciliation section of their earnings release:
http://yhoo.it/y0jXkq
So I'm already using lower, more conservative, GAAP numbers in my calculation.
As to your point about the number of shares, I agree, at least in part. It's true my calculation doesn't adjust for a change in share count going forward. But the point of a discounted cash flow is you're "bringing back" all future cash flows, and dividing them up among the current shareholders - you're not supposed to adjust the share count in future periods.
As for stock-based comp dilution - yes that might be a problem, but consider that the majority of employee options expire worthless, because the employee either leaves (or is fired) before the options vest, or the options were issued when the share price was much higher. Think of OPEN: a great many of the options issued in the past 12 months have strike prices much higher than the current share price. They're worthless, and won't be worth anything unless the share price climbs materially from its current $45 level.
If you want an easy, real-world indication of just how much option dilution is possible with OPEN, just compare the fully-diluted share count at 12/31/11: 24.094m with the basic share count: 23.509m.
There's only a 2.5% difference, which doesn't portend a whole lot of dilution in the future.
Lastly, I don't know what you mean by, "OPEN has plans for dilution." I'm unaware of any shelf registration of shares for future sale. Care to elaborate?
Red Hat: A Software Investment For The Next 30 Years [View article]
VMware is interesting, and as I note after the valuation table, it has a higher cash flow margin and a lower forward P:E multiple than RHT.
What VMware has going against it, is that it already has 85% market share of the virtualization market, meaning it can't really grow by taking share. Instead, it's reliant on market growth. Yes that's a big market, but so was PC networking back in the day, and then it flattened out. Which left a hugely dominant player, Novell, high and dry. And I can assure you that Novell didn't carry around a 35 forward multiple for the last 10 years of its public existence. And there weren't open source alternatives to Netware, whereas VMware has Open Source competition, including Red Hat.
Whereas with Red Hat, they've got somewhere around 4% market share in their primary markets, which means they have a much longer "runway." And thus the ability to grow at 20-30% annually for many many years to come.
As for "in-sourcing," you're right: plenty of Red Hat customers already do it, and that's one reason why the average subscription length is less than two years. But enough customers don't because this kind of enterprise-class computing is a career call for the IT managers who make the decision: you're supposed to get it right, and you'll be toast if you get it wrong. So staying "on the reservation" is a strong motivation to keep paying the subscription fee. And there will always be a steady flow of that type of customer: IBM owes its existence to them.
Skip Buying RedHat, Pick Up Microsoft Instead [View article]
This isn't quite right: Apple does not compete with Red Hat in any meaningful way. Red Hat markets enterprise-class operating systems and middleware - Apple doesn't.
For an accurate and more complete view of Red Hat, see our Seeking Alpha research piece published just last week:
http://bit.ly/wJZ7y0
Another of your statements, "Apple is scheduled to release fiscal 2012 first quarter results tomorrow after the bell and may well deliver" is incorrect: Apple reported two days ago on Tuesday the 24th.
Barry Randall
Crabtree Asset Management
Cramer's Mad Money - The Most Watched Stock I Have Ever Seen (1/23/12) [View article]
Just FYI: Natural Gas is methane - they are two names for the same hydrocarbon.
Red Hat: A Software Investment For The Next 30 Years [View article]
Yes, the high DCF valuation may seem at odds with the stock price, which already has a high P:E valuation. But I do DCFs as a real-world reality check; and if IBM was considering buying Red Hat (a frequent rumor) then they'd be doing a DCF of their own to gauge how dilutive or accretive a deal would be.
Very very few service-oriented, subscription-based companies have 33% operating cash flow margins and relatively low capital needs. Red Hat is such a company. Which explains the 40 P:E. But it also explains (via the estimated future cash flows in the DCF calculation), the triple-digit DCF value.
And as I note in the piece, even if you jump the discount rate up to 9%, you still end up with a DCF value higher than the current share price.
Red Hat: A Software Investment For The Next 30 Years [View article]
You are right: software - even foundational software like operating systems - gets replaced. In fact, ample industry research shows that seven years is the average replacement cycle period. But this cycle is unlikely to shorten because even if the customer isn't completely satisfied with their system, the time and expense (for installation, training, data conversion, etc.) is so onerous that buyers generally "tough it out" until they've amortized the expense. These cycle dynamics have been constant since the 1960s and I don't believe the move to cloud computing alters it.
And Red Hat too is branching out, first to middleware, and now to virtualization and data storage.
Lastly, don't forget, that clients can be happy and replace what they've got with an upgraded version from the same vendor. And with a subscription- based model, the client has that option essentially at all times.
Red Hat: A Software Investment For The Next 30 Years [View article]
If I were on SUSE's board or the point person at Attachmate minding their investment, I think I'd be encouraging SUSE to distinguish themselves more clearly in the marketplace. The market is large and growing quickly enough for SUSE to survive and thrive, but only if they are able to be something other than the Avis to Red Hat's Hertz.
Maybe it's in ultra-large scale deployments or supercomputing. Maybe it's in "big data." But it needs to be distinct. Not necessarily so they can go toe-to-toe with Red Hat, but so their development ecosystem and their sales force can address the opportunity pro-actively, rather than being, "the other guys" in a bake-off vs. Red Hat.
Red Hat: A Software Investment For The Next 30 Years [View article]
Not sure I know what that means.
But what I meant by "-for-the-next-thirty-... reflected the larger trends favoring Open Source in general and Red Hat in particular. If you read my piece (it's not clear you did) then you'll understand this point.
It's not about whether Red Hat will "beat the numbers" in the next quarter - as I note in the article, it would be hard even if they wanted too: 85% of revenue is subscription and therefore knowable.
It's about Red Hat having only 3-4% market share in two multi-billion dollar markets and growing much faster than their competitors. No lead lasts forever, but most of Red Hat's competitors don't even understand how to successfully commercialize open source software, let alone are doing so.
It's true that many technology leaders from 30 years ago aren't even around today, let alone were good investments for that three-decade stretch. But those that survived and thrived (e.g. IBM, Apple, Microsoft) did so because they always generated cash, even during very fallow stretches (see IBM and Apple). This steady stream of cash allowed them to tinker with their business models until things clicked again.
I'd certainly bet on Red Hat vs. Google over the next 30 years. Google is and will remain just one good competing search algorithm away from...becoming MySpace. But as I noted early on,, once Red Hat's software has become the foundation of your enterprise computing environment, it will be very hard to dislodge them. And for the last 20 years, Red Hat hasn't given its customers many reasons to do so.
LinkedIn May Find Itself LinkedOut Before Long [View article]
NIC Inc.: A Dominant Player In Government e-Services [View article]
My fantasy is to find the Indian company bringing that country's massive, people-intensive bureaucracy on-line. Now THAT is an investment opportunity!
LinkedIn May Find Itself LinkedOut Before Long [View article]
I went over these issues in my SeekingAlpha report about 10 days ago:
http://bit.ly/vDLLpA
But as a company, LinkedIn is dominant and your "drive-by" report on "Identified" won't worry anyone at the company. I would suggest you ponder how LinkedIn came to its dominance and the multi-million hour investment that LinkedIn members have made in posting and curating their information. While the lesson of MySpace is that no lead is safe, it will require more than a "tag-you're-it" type of social network to unseat LinkedIn.
A lot more.
Barry Randall
http://bit.ly/ujizvS