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On April 13, 2018, ShiftPixy (PIXY), providers of an on-demand human capital management platform connecting employers to part-time shift or "gig” workers, reported fiscal 2018 second quarter results. Gross billings grew 58.1% to $48.6 million, compared to $30.8 million for the 2017 second quarter. Gross billings increased 20.9% sequentially from $40.2 million in the prior quarter. Revenues increased 45.8% to $7.9 million, compared to $5.4 million for the second quarter of 2017. Worksite employees rose by 3,405 to 6,798 compared to 3,393 as of February 28, 2017. The number of employees at the end of the quarter also represents a sequential increase of 1,116 over the number of employees at the end of first fiscal quarter 2018. Gross profit was $0.9 million vs. $1.1 million in the prior year period, and net loss per share was 9 cents during the quarter, vs. a net loss of 4 cents the previous year period. The company beat estimates by a penny per share. This report solidifies a continuing trend of impressive growth for the young Nasdaq-traded company.
During the follow-up conference call, the CFO provided an update for the current fiscal third quarter. During the first half of the quarter, the company added 16 new clients and approximately 1,300 new on-site workers since the end of the fiscal second quarter ending February 28, 2018. He said these wins could add $93 million in new gross billings. The CFO also confirmed the company's goal to reach a breakeven point on cash flow by the end of 2018. The CFO continued: “The sequential month-over-month growth of revenue for March 2018 grew at a rate more than 20% over February 2018.” You can listen to the recorded Fiscal Second Quarter 2018 Webcast.
If the company continues to sustain this growth rate, annual gross billings growth could exceed 240% by the end of 2018. These real-time metrics support a trend of continued growth, which should drive stock price appreciation as more investors become aware of the PIXY opportunity.
PIXY a Growth Play
An investment in PIXY stock is a growth play, not an earnings play. The company has identified and filled a niche in the staffing marketplace for employers who depend on part-time gig/shift workers. The company targets employers in the restaurant, hospitality, retail, and lodging verticals. The company remains an early-stage rapid growth company that continues to make significant investments in its proprietary mobile app, HCM technology, sales and marketing, pre-paid workers compensation costs, and client support capabilities.
As a young company, PIXY decided to fuel its growth by commencing a public Regulation A+ IPO last June. As a result, the company incurred the necessary professional expenses related to being a publicly traded company. I expect profits and margins to remain under pressure for the next few quarters, but the company has potential to turn cash flow positive by the end of the year.
PIXY's continued growth will be supported by market expansion. The company recently announced the opening of new markets in New York, Austin Texas, and Orlando, Florida. These markets have a large number of employers with a substantial need for on-demand gig/shift workers. Gross billings and revenue should continue to expand as these new markets start contributing to overall performance. Operating margins should improve as capital investments subside.
Valuation and Price Target
PIXY’s growth rate and potential for significant margin increases in the future are driven by its unique structure and technology. The stock shouldn’t be valued as a traditional staffing company, Professional Employer Organization (PEO) or Administrative Service Organizations (ASO). It should be valued as a leading hybrid tech/staffing/HCM company. Most staffing companies are valued at 0.7 times enterprise value to sales with some valued as high as 1.8 times enterprise value to sales. Most PEOs/ASOs are valued at a higher multiple due to higher margins. Technology companies trade at even higher multiples. I believe PIXY’s true stock valuation should be based on a multiple of approximately 1.5 times enterprise value to sales given its growth rate and potential. PIXY stock price could appreciate to $9.30 per share by the end of 2018. I project the company's market cap will reach $300 million using my estimate of $200 million in gross billings by the end of 2018 and 1.5 times the enterprise value to sales on a fully diluted share count of 32.2 million shares.
Based on my projections and the company's current growth rate, PIXY stock appears irresistibly undervalued at current levels.
Market Reaction to Report
The company announced its fiscal second quarter earnings before the market opened on April 13, 2018. The stock opened at $3.45. It hit an intraday high of $3.60 and an intraday low of $3.04 before closing at $3.18. The stock has continued to trade in a range from $3.00 to 3.59 as of the writing of this article.
Despite the strong report, investors and traders seem to be expecting more growth. Based on fiscal first quarter guidance provided in the January 22, 2018, earnings announcement, management expected gross billings for the fiscal second quarter 2018 to be in the range of $60 million to $65 million. The company fell short of this expectation. Missing the projected gross billings number may have caused short-term momentum traders to sell positions and exit the trade. The drop in volume since the report supports this assumption.
I believe the company is a young public company and management is still learning how to guide the investing public. The company recently hired a new CFO with an extensive audit and accounting policy background that will help management guide investors more accurately in future quarters.
I also believe investors may have missed the more important story, which is the unique business model and sustained growth offered by the PIXY opportunity. I think a negative cloud has hung over the stock due to a few biased articles and events that made some investors nervous. Short-term traders and short sellers appear to have taken control of the stock once IPO investors started taking profits.
Historical Price Action
On June 30, 2017, PIXY's IPO stock priced at $6 per share. The stock began trading on the Nasdaq exchange and opened at $6.30. The stock steadily gained value throughout the day and closed at $7.70. Early investors saw the value of the PIXY business model and its potential. By July 10, 2017, the stock worked its way up to its all-time of $11.64, a 94% 10-day gain over its IPO price. These impressive gains may have attracted traders who were looking for a quick trade. Many day traders did little due diligence on the company or the offering. As the price was driven up, profit-taking set in. The stock began to drop although bulls put up an intense fight to hold the price above $10. Once that level broke, the stock price started its descent on the back of negative articles and events that created headwinds for the stock. The stock has since traded in a range from its all-time low at $2 per share to around $4.50 over the past six months.
PIXY stock suffered several setbacks since becoming publicly traded last June. First, the IPO did so well it attracted too many short-term traders who drove up the price too quickly. This led to profit-taking once the buying slowed downed. With such a low float, the stock turned down sharply. The daily moves were volatile with $2 to $3 price swings in a single trading session. Once the selling started, some panic selling and short selling piled on. Margin calls and losses caused some angry short-term traders to research the stock offering they invested in more carefully. Opinions spawned several negative stories about PIXY's two major shareholders/co-founders, creating headwinds for the stock.
Involvement in Past Legal Proceedings
The stories focused on historical administrative and legal proceedings disclosed voluntarily by the company in its offering documents to meet the conditions of certifying ShiftPixy’s Common Stock for a Nasdaq listing. See pages 32-33 of the offering circular under the section titled "Involvement in Certain Legal Proceedings" in the Offering Circular.
None of the events disclosed occurred during the five years preceding the ShiftPixy IPO. The disclosures show that PIXY CEO, Scott Absher, along with other individuals and entities, received a cease and desist order from the State of Alabama. The order asserts that he was the president of a company that issued unregistered securities to certain Alabama residents. The allegations stem from a previous venture completely unrelated to ShiftPixy. Mr. Absher disputed the assertions in the order, and the matter resolved without his response. The second disclosure related to Co-Founder Stephen Homes. The company disclosed Mr. Holmes' prior conviction for acts associated with making false statements concerning two quarterly IRS Form 941 Employer Federal Quarterly tax returns, one in 1996 and the second 1997, for a company in which he was, at the time, an officer.
The Absher cease and desist order and Holmes' convictions from more than 20 years ago were adequately disclosed in the company's offering documents. Although the disclosures provide easy ammunition to short-biased parties, neither of these background issues should have a material impact on the operations and prospects of the company. Mr. Holmes is not an employee, executive, manager, or board member of the company. He is a significant shareholder who helped to create this unique business model based on his extensive experience in the industry. His mistakes of the past should not hinder the company's operations. In addition to being a major shareholder, Mr. Holmes is an independent contractor with the company. He devotes his efforts to building a sales network and providing consulting services in relation to worker's compensation programs as well as Affordable Care Act health insurance programs. He is not involved in any part of the accounting, tax paying, or IRS return filing areas of company’s operations.
Based on my research, these matters were sufficiently closed years before the IPO and are no longer active legal proceedings. Furthermore, there are currently no pending or threatened lawsuits against the company.
Postponement of Reports
Another setback was the postponement of the release date for the company’s fiscal fourth quarter 2017 and year-end 2017 reports. Postponement announcements are never received well by investors and traders. However, it appears to be an internal growth or administrative problem suffered by a young public company. The company lost their CFO, Stephen DeSantis, in October 2017 to another Southern California technology company, CloudVirga. It took the company a few months to add a new CFO. This critical vacancy may have contributed to the delay in releasing results.
Overhang on Stock
The stock may be suffering from the perceived overhang of insiders (primarily the two founders) holding 87% of the total issued and outstanding stock, outstanding options to purchase Preferred Stock, and the 2,355,725 warrants held by non-affiliated investors at exercise prices from $2 to $4 per share. The exercise period for all warrants expires on March 1, 2019. As of April 30, 2017, none of these warrants have been exercised.
The founders possess significant influence and control over the company. In addition, upon the exercise of the options to purchase preferred stock, the holders of the preferred stock would be entitled to elect a majority of the board according to the terms of the preferred stock. Their ownership and control also may have the effect of delaying or preventing a future change in control, impeding a merger, consolidation, takeover or other business combination or discourage a potential acquirer from making a tender offer. However, I believe having a large percentage of equity held by the primary founders/insiders is a good thing.
Similar to Google (GOOG) (NASDAQ:GOOGL) or Facebook (FB), founders that are confident in their business model and future prospects prefer to control as much equity as possible. As the largest shareholders, founders have the most to gain or lose from the failure of the company to execute its plans. They also are negatively impacted more than others if the company has to experience a dilution event. The outstanding options to purchase preferred stock held by the two founders is nothing more than a poison pill. The preferred stock holds no exclusive rights to dividends and can't be converted into common stock. The preferred stock only provides super-majority voting protection in circumstances when the acquisition of a controlling interest by a shareholder other than the original holders occurs. See the Description of Securities on pages 38-39 in the Offering Circular.
I completely understand the potential dilution concerns shared by investors and traders. This potential dilution may be holding the stock down in the exercise price trading range. However, as long as the stock trades at or under the exercise prices per share, these options will expire. I expect PIXY’s stock price to appreciate as concerns about potential dilution dissipate.
I believe traders are unfairly connecting the stock price to warrant exercise prices. The true valuation of the company should be tied to the company's sustained performance and growth pattern. If the company continues its current growth trend, this overhang will not last much longer in my opinion.
Potential Need to Raise Capital
The company may need to raise additional capital to continue its expansion and product development. However, I see plenty of potential for accelerated growth without the need to raise capital as capital expenditures continue to decline and revenue continues to increase in coming quarters. It is possible the company may not need to tap the secondary market. Nonetheless, upon removal of the warrant overhang, I think the market will absorb any additional shares quickly.
Low Float Microcap Risk
While all investments involve risk, microcap stocks are among the riskiest. Many microcap companies are new or have a limited track record. Many microcap stocks trade in the "over-the-counter" (OTC) market, rather than on a national securities exchange such as the New York Stock Exchange or Nasdaq. PIXY is a Nasdaq traded company. Nasdaq requires the company to meet certain financial, public float, bid price and liquidity standards on an ongoing basis in order to continue the listing of PIXY common stock. If PIXY fails to meet these continued listing requirements, the stock may be subject to delisting. If the stock is delisted and the company is not able to list PIXY stock on another national securities exchange, I expect the securities would be quoted on an over-the-counter market. If this were to occur, PIXY shareholders could face significant material adverse consequences, including limited availability of market quotations for PIXY stock and reduced liquidity for the trading of the securities. In addition, the company could experience a decreased ability to issue additional securities and obtain additional financing in the future.
Another risk that pertains to microcap stocks involves the low volumes of trades. Because many microcap stocks trade in low volumes, any size of trade may have a large percentage impact on the price of the stock. With a small float of only 2 million shares, any bias can move the stock significantly. A low float micro-cap stock like PIXY is not for everyone. It can be extremely volatile and will test the patience of any investor watching the daily trading activity.
PIXY is an emerging growth microcap company subject to microcap risks. However, I believe PIXY stock provides a favorable risk/reward ratio at current price levels.
The trend toward a gig economy has begun. A study by Intuit predicted that by 2020, 40 percent of American workers would be less than full-time independent contractors. See the report published October 14, 2010.
The company has developed solutions for employers and workers in an environment in which shift or part-time/temporary positions, commonly called “gigs,” are performed. In what is now being called the Gig Economy, businesses contract with independent workers for less than full-time engagements primarily in the form of shift work.
There's a large potential market for Pixy's services. Current statistics show that more than 13 million employees are working in PIXY’s target markets - the restaurant and hospitality industries. Statistics from the U.S. Department of Labor. Bureau of Labor Statistics. September 2016. Table B-1: Accommodation and Food Services Industry Sub-Sector.
I believe there are approximately three million restaurant and hospitality entities with under 500 employees in the US, along with the estimated market potential at $3 billion in service fee revenue, or $30 billion in gross billings including wages. ShiftPixy is positioning to capture a meaningful share of this large market opportunity.
The company is structured as a staffing company, with additional capabilities and services typically offered by Professional Employer Organizations (PEOs) or Administrative Service Organizations (ASOs). Such services include outsourced payroll, benefits, and HR functions. Usually, staffing companies focus strictly on staffing and don't cross into payroll management. ASOs and payroll service providers seldom cross over into recruitment, placement, or staffing. PEOs usually act as "co-employers" to on-site workers, while staffing companies are the employer of record of its on-site workers. Drawing on more than 25 years of experience in workers compensation and employer regulatory compliance, PIXY's proprietary operating and processing system is structured to offer employers all three critical service offerings.
The Pixy approach to the staffing business is to offer employment law and regulatory compliance solutions with comprehensive human resources outsourcing capabilities. This service is delivered through active client engagement supported by a robust technology platform. PIXY acts as the employer providing workers to a client, while the client continues to focus on its business. Clients give direction to PIXY on-site employees as necessary for the client to operate its business. PIXY's single-service solution includes key HR management and employee benefits functions, including HR administration, employee benefits, and employer liability management.
How It Works
The company currently focuses its sales, marketing, and business development efforts on the restaurant and hospitality industries. The company targets underserved small and medium businesses (SMBs) with 100-500 employees in these verticals. These companies are prime candidates for PIXY offerings due to increasing regulation and a heavy dependency on gig/shift workers.
A large percentage of PIXY business comes through low-cost introductions or referrals from the company’s extensive network of insurance providers, agents, and vendors. The worker’s compensation component of PIXY services has been a significant driver for these introductions. Potential clients are drawn to PIXY by a desire to outsource worker’s compensation coverage for their shift workers.
Once a referral is received, PIXY's sales staff offers a unique solution to have the prospective client transfer their shift workers over to be employed by PIXY, which then acts as a staffing agency for the customer. By pooling the employees of many smaller companies, PIXY can administrate the human resource management function using economies of scale and group buying power similar to a POE co-employment relationship. In return for providing insurance, payroll processing, benefits, and compliance services these enterprises pay PIXY a fee based on their payroll. The cost is much less than the costs of handling these functions in-house or having to contract with different companies for staffing, PEO, or ASO services.
Innovative Fast Food Driver Management Solution
The company recently announced its new driver management solution for fast food and fast casual dining operators. The service will now allow Pixy clients to use their team members to self deliver under its brand instead of having to rely on expensive third-party services such as GrubHub (GRUB) or UberEats (UBER). Pixy has taken the compliance, management, and insurance issues related to the support of a delivery service and created a unique turn key, self-delivery opportunity for fast food operators. Many restaurants cannot make deliveries due to the inability to get insurance. PIXY’s new insurance offering provides micro-metering which lets restaurants economically send their employees. The restaurant is only charged for insurance when a delivery is in progress, making costs very low. I agree with the company’s belief that there will be significant interest in this product as restaurants seek to expand sales and improve customer service. PIXY can a charge a premium for its driver management solution, which should improve gross margins and increase PIXY’s profitability.
Gig Economy Client Opportunity
PIXY solutions also remove the litigation risk of worker misclassification in the gig economy. Gig economy companies such as Uber regularly classify the people working for them as "independent contractors" rather than as "employees" for gigs. Under state and federal employment laws, workers classified as employees are much more expensive for these companies. However, increasing litigation against Uber and others has raised awareness about this issue. PIXY provides a solution by absorbing workers for these types of gig economy companies, eliminating any risk of litigation, fines and other worker misclassification problems for gig economy companies.
Management has developed a proprietary technology stack based on processing employer and gig/shift worker payroll and HR related data through HRPyramid software, provided by PrismHR. PrismHR is the largest payroll, benefits and HR software platform for Professional Employer Organizations (PEOs) and Administrative Service Organizations (ASOs). It powers more than 80,000 organizations, delivering payroll, benefits, and HR to greater than 2 million worksite employees and processes over $55 billion in payroll each year.
PIXY Mobile App
Another critical differentiator that should continue to drive rapid growth is PIXY’s newly launched mobile app. The app is an on-demand uber-like app utilizing IBM’s Watson Artificial Intelligence to onboard new employees. The app is only offered by invitation to an employer client's shift workers who convert to PIXY employees. Soon the company expects it will be able to facilitate scheduling between restaurants and shift workers by matching qualified workers to shifts while giving workers access to their schedules and earnings in real time. It also will create a social job-seeking network for matching job openings with workers or for workers to geo-locate available shifts in real time. The service also can be used to make permanent hires, in which PIXY can earn placement fees. Since all the workers in the network already are employees of PIXY, a restaurant can fill a shift or even hire someone without any additional paperwork or onboarding.
PIXY plans to offer this app to all potential part-time gig/shift workers in target markets, not just those transferred to PIXY by clients. Opening its mobile app to all shift workers should supercharge PIXY’s growth.
PIXY Blockchain Ledger
PIXY has implemented a private, centralized blockchain ledger to ensure unmatched security and privacy of client and employee data and employment-related transactions. PIXY’s use of a blockchain ledger (most likely built upon IBM’s blockchain hyper-ledger technology IBM Blockchain Hyperledger) protects human capital transactions containing some of the most sensitive personal information.
Fortified by the competitive advantages the company is building, I believe PIXY is positioning itself to deliver attractive returns to shareholders. I believe PIXY stock is undervalued at current prices and should be accumulated by investors seeking attractive returns over the next 3-8 months. I base this theory on the belief the company will be able to command a premium share price in the market considering its unique structure, technology, service offerings, focused positioning, and proven growth rate.
Disclosure: I am/we are long PIXY. 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.
Additional disclosure: I may increase my position in the next 72 hours.
I have no relationship with the company or any company that has a relationship with ShiftPixy.