"If a man didn't make mistakes, he'd own the world in a month". - Jesse Livermore
This is not an easy update to write. As regular readers will recall, I wrote an extended bullish piece on Monster Worldwide (NYSE:MWW) in October last year when the stock was at $6.6, suggesting it was dirt cheap and poised to turn around; I subsequently reiterated the call after a so-so earnings report even as the stock traded back down to $6 (from ~$7.5 pre-call) despite a couple of warning signs (in hindsight). Clearly, the stock had been a dog even into the 4Q report yesterday, falling well in excess of the market to ~$4.2. But the reported 4Q earnings yesterday were an unmitigated disaster and shredded any remaining tenets of the bull thesis. I exited the position today at the open ($3.4) once it became clear that my prior reasoning underwriting the bull case was null and void.
Making mistakes is an unavoidable part of the investing process, and we can only hope to minimize them as best we can and learn from them when they do occur. Clearly, I didn't respond early enough, or at all, to such warning signs as existed in MWW. Since this has been probably my worst investment ever, I thought I would try to outline where exactly the thesis broke down. Investing can be a humbling process, and I consider this failed trade a well-deserved dosing of humble pie.
Recapping the bull thesis
For those not up to speed on my original thought process, the bull case around MWW revolved around the following points:
- The former playbook of growth by acquisition was over, and the company was monetizing non-core assets;
- the former train-wreck CEO was out, and the remaining execs from the old mgmt team seemed to "get it";
- revenue growth was inflecting back positive after many years of decline, driven by growing acceptance of new products and better scale;
- the business had always been cash generative and with no more acquisitions and a stabilizing business, would throw of a ton of cash to buy back a big chunk of the equity;
- valuations were near multi-year troughs and were unlikely to make new lows given all of the above.
Needless to say, most of these arguments have been rendered moot by the obliteration of earnings over the last two quarters. To summarize, most particularly from the recent 4Q report:
- Revenue growth - even at constant-currency terms - failed to inflect and remains negative despite continual mgmt claims that growth is just around the corner;
- new products, while apparently growing, were disclosed to be an almost insignificant part of the overall business (<10%) in the most recent quarter;
- volume growth aside, pricing pressure in the vast majority of its product suite has accelerated in the last two quarters - something touched upon in North America in 3Q but emphasized more clearly on the recent 4Q call. This above all is a sign of ongoing secular decline;
- FCF generation has declined, and more importantly, management has shown an unwillingness to use substantial cash balances to buy back the stock aggressively - despite its insistence that the stock represented "compelling value";
- a shocking turnabout in attitudes towards potential acquisitions: on the 4Q call, the CEO suggested "tuck-in" acquisitions would be contemplated with some of the excess cash generated from the JobKorea sale. This complete volte-face was disturbing given investors thought this option had exited the playbook;
- an abandonment of EBITDA margin targets exiting 2016 (previously guided to 25% EBITDA margin run-rate, from ~18% EBITDA margins in 4Q '15) due to the "need to invest in the product" to return to organic revenue growth;
- ultimately a massive miss vs. consensus on FY16 EBITDA (guided to ~$93mm vs. Street at $130mm+) with a big cut to EPS expectations for 1Q (guided to 6-10c vs. 13c consensus).
Thus, as I posited in the introduction, 4Q really was a disaster. A few things jumped out at me (painfully) as I sat listening to the conference call - things I could have, or should have, been more cognizant of over the last few months:
1) Management credibility (or lack thereof): Clearly, a large part of my bullish thesis was the idea that the old, train-wreck CEO Iannuzzi was out, and that even those managers who were a holdover from his team (namely, the current CEO) had learnt the lessons of Iannuzzi's failed expansion efforts and would not repeat the mistakes of the past. Nevertheless, what we got was a hyper-aggressive margin guide early in the year ("path to 30% EBITDA margins by 2016"); followed by a walk-back of the timing and scope of those margin cuts (25% margins, but by end-2016); and finally an abandonment of those targets in the latest quarter. All along, management provided piecemeal explanations for underperformance (seasonal softness in NA, FX headwinds in Europe, increased investment needs in new products) without being forthright about the real cause of margin compression - massive price competition in its legacy advertising offerings. Furthermore, management clearly did not learn that shareholders did not want more "bolt-on acquisitions", as it seems the current CEO is determined to give us, considering this management team's track record for value destruction. Frankly, you could make a decent case that even if it was worth the risk to dance with this management team last year, after the 3Q report, it was pretty clear it had absolutely no credibility with its strategy or its guidance and that alone was the cause to bail. Clearly, this is a point I misjudged badly.
2) Misjudging the turnaround: I am generally skeptical of turnaround stories, so it is strange I didn't heed my own advice a little better. With regard to MWW, the turnaround of the business was predicated upon a) a new strategy built around scale ("All the People, All the Jobs") along with new product offerings; b) significant cost cuts throughout the entire expense structure; and c) a return to organic growth after many years of declines. Perhaps, I was seduced by the initial positive response to new product offerings (despite the small size relative to the legacy business) and large initial cost cuts, but by 3Q, it was at least reasonably clear that new products, in particular, weren't resonating as well as management had hoped. And in retrospect, there were other warning signs that I should have picked up: a disproportionate amount of cost cuts were coming out of the "low-hanging fruit" cost centers like marketing expenses; as a result, things like unique monthly views plateaued (and began declining more aggressively in 4Q).
Furthermore, the company only intermittently disclosed bookings trends, and throughout the year, became increasingly vague as to the relevance of reading through bookings trends into revenue visibility. These communication issues were compounded by steadily declining deferred revenue balances - troubling in the face of management's promises for increased revenue growth "just around the corner". At the time, I was far too believing of management's paltry explanations for the (supposed) decreasing translation between bookings and near-term revenue and missed the forest for the trees: revenues weren't growing because, booking volumes aside, there was just too much price competition for legacy products and ASPs were marching relentlessly lower.
Of course, a large part of my misjudgment of the turnaround relates to a misplaced faith in management, as per point 1). This is not an excuse - it simply highlights that in complex turnarounds, management's credibility is absolutely paramount, and needs to be judged critically and frequently against key performance metrics (the definition of which should not change over time). My experience with MWW has taught me this lesson at great cost, but it will not be forgotten.
Valuing MWW now - cheapish, but no thanks
With the stock at $2.75, MWW now sports a market cap of ~$244mm, just $31mm of net debt (treating the now out-of-the-money converts as debt), and will - even at the newly, lowered guidance - throw off ~$50-55mm in FCF in 2016. This would suggest a 20% FCF yield, and by my math, puts the stock under 2.5x EV/EBITDA, which would suggest at least on the EBITDA multiple that the stock is unreasonably cheap (certainly so versus historics).
Unfortunately, ~8% FCF yield for a business, even unlevered, clearly in this much structural pain is really not that cheap at all, as I've learnt to my cost. And compounding the issue is the fact that we now have no idea if that cash will even be meaningfully returned to shareholders (given management's new-found desire to waste more money on acquisitions). And even then, we still have to take management at face-value on its 2016 targets, which, frankly, is impossible to do any longer. Thus, even at current levels, I decided to take my lumps and move on to the next one.
Disclosure: I/we 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.