Perion Network: Balancing Offense And Defense
- Perion’s diversified ad-tech business model protects it from the volatility and uncertainty in digital advertising.
- Management has been decisive in cutting costs to cope with COVID-19.
- Despite the company’s rather impressive profile, industry-wide spending cuts will likely persist in Q2 and Q3, putting pressure on the top line, and hence, I prefer to be neutral for now.
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Doing business without advertising is like winking at a girl in the dark. You know what you are doing, but nobody else does.
- Stewart Henderson Britt
Perion Network Ltd. (NASDAQ:PERI) is a global technology company that is in the business of providing data-driven ad-tech solutions for brands and publishers. I like the company's diversified business model - a go-to-market model which includes products and services that are used across the three main pillars of digital advertising, which are: 1) Search, 2) Social Display, and 3) Video. This helps it cope with the inherent uncertainty and volatility in the digital media spend which was prevalent even before COVID-19 reached our shores. The other important thing to remember is that Google (GOOG, GOOGL), Facebook (FB), and Amazon (AMZN) tend to through their weight around, as they control c.85% of ad spend. This means brands, advertisers, and publishers tend to look for friendlier and flexible alternatives that respect their brands and need for monetization. This is where PERI comes in.
COVID-19 Impact on Digital Advertising Industry and beyond
As mentioned in the Lead-Lag report, last month, we saw the lowest services sector activity reading - as per ISM - since April 2009. Confidence has been shot, budgets have been trimmed drastically, and advertising, being a discretionary activity, has really had to take it on the chin. Digital and local media companies are more vulnerable to such conditions, with digital ad spending expected to decline by 25-45% in Q2 and 10-20% in Q3. This is so because national television ads are often purchased many months in advance and are harder to cancel, but most digital ad buys can be canceled within days. In fact, PERI management flagged that decline in ad spend from clients was down 25% in March, and a significant number of campaigns that were planned for Q2 were put on hold or canceled. Potential wins too have been delayed or postponed.
Look, coronavirus aside, I think it’s fair to say that we are now well and truly deeply entrenched in a highly digitized world, with the traditional modes of advertising increasingly becoming redundant. And when the dust settles and the world regains some confidence, it’s important to not forget that there’s a big digital advertising market up for grabs. Global digital ad spending, which was estimated to be at c.$333 billion in 2019, is expected to hit c.$518 billion in 2023, representing a 12% CAGR (Source: eMarketer). It currently accounts for c.50% of total media spend and is poised to hit 60% by 2023. So yes, currently it might look like an industry that is down in the dumps, but when business confidence returns, we could see a rebound. I think this rebound could first be seen in the ad search space. In fact, PERI management highlighted last month that search volumes were at an all-time high at 13 million searches (understandably so, as people were locked in for long periods), but RPM (revenue per 1000 impression) - or, in other words, the pricing or amount the advertiser is willing to pay for ad search - had weakened in April with some marginal recovery in May. Advertising campaigns in general, which involve video, audio, and display, tend to have a longer sales cycle than "searches" and might take a little longer to come back. Even looking at things long term, I am quite enthused about the long-term potential of ad searches as people spend more time online and the level of online purchases surges.
Defensive measures taken by PERI to cope with COVID-19 headwinds
There are going to be top line pressures in the coming quarters, but PERI has been proactive and decisive in making changes on the cost front. Savings will primarily be on the payroll front, and the company also thinks it can get more synergy between different business units. It has also been able to engage in successful talks with its vendors. The other important thing to note is that all of PERI's employees are now working remotely, so the company has been able to re-work some of its lease agreements too. To sum up, the company is targeting a total of c.$10 million of cost savings for the year, which should help it weather this storm.
Strong balance sheet and improving cash position
I’ve also been very impressed by the way the PERI management has turned around the balance sheet and cash profile of the company - from net debt of $39 million in 2015 to net cash of $21 million last year (at the end of Q1 20, Perion had $54 million of cash and $40 million in net cash). Worth noting that the company has managed to maintain this net cash position despite shedding out c.$15 million of cash to acquire CIQ last year. This is part of a broader turnaround plan that has been in place since 2017. In the digital ad space, receivable cycles tend to be longer and payable cycles shorter, yet still Perion has managed to grow its cash flow from operations (CFO) by 26% CAGR from 2015 to 2019. As this is not a capex-heavy business, Unlevered Free Cash Flow (FCF) growth during the same period has been even better at 31% CAGR. This dependable balance sheet and cash flow profile will help the company cope well with current industry-wide pressures in the digital ad space and also give it the firepower to engage in strategic M&A that could enhance its service offering.
As you can see from the long-term chart, PERI has underperformed since 2013-2014, when it used to trade at around the $40-45 mark. Since then, one has seen quite the fall from grace, with the stock crashing towards the $2 mark in mid-April 2018.
Source: Yahoo Finance
Safe to say, one isn’t going to see those lofty 2013-2014 heights anytime soon, so my technical analysis focus is more towards the intermediate patterns where things are broadly neutral with some green shoots in between.
Looking at things since 2017 (from when the management has been implementing a turnaround plan), one can see that it was descending via a broad bearish channel which was decisively broken in July last year. The stock was doing fairly well and looked set to break past the $10 mark earlier this year, but then, COVID-19-related headwinds resulted in some selling pressure. Yet still, I am quite encouraged that it hasn’t broken below the $3 mark, which was incidentally the zone from which we had that key breakout candle towards the upside. As long as the $3 levels hold, we can look upon this as something of a first-leg pullback, allowing any potential investors an opportunity to build positions. We’re currently in the midst of an indecisive Doji candle, where both the sellers and buyers have been unable to dictate terms.
Over the last 3 years, PERI management has been carrying out a turnaround plan, and it has been largely successful so far. I think it’s fair to say that this has been reflected in the share price, where the stock had broken out of a descending channel. The current part of the plan would involve building on growth, and the company has had a rather impressive Q1 where revenue grew by 25% YoY revenue growth. It’s rather unfortunate that it's now had to contend with the pandemic headwinds just when things were beginning to get going. Industry weakness in the digital advertising space will likely linger in Q2 and Q3, and will likely only begin to gather steam by Q4 or so.
Thus, as much as I like the Perion story, I don’t think one can disregard the broad industry-wide pressures that are currently prevalent, and hence, I would prefer to sit on the fence and wait for the data to suggest that things have bottomed out before considering a position in the stock. At the moment, I am neutral.
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