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Sharing My InterClick Thesis - They Got Bought Out By Yahoo!

|Includes: Altaba, Inc. (AABA)

Here is another former idea that I researched and pitched to first to friends. A few of them made 50% on it after Yahoo! bought them out.

interClick (Nasdaq Ticker - ICLK)

11/19/2010 (Closing Price - $5.93 / Target Price - $10)

Initiating Coverage with a Buy Rating (Michael Ranalli)

Company

interClick (NASDAQ:ICLK) is a unique display advertising company that is hired by digital ad agencies to run fully transparent audience targeted marketing campaigns for Fortune 1000 companies. Unlike its numerous competitors in this evolving marketplace ICLK is the only company that allows its clients total transparency including detailed data on "where every impression ran, how many clicks were generated on each site, what third party data was used (direct quote RBC research)" and other metrics that marketing executives can use to measure the effectiveness and efficiency (NYSE:ROI) of their marketing dollars for each campaign.

interClick's management team essentially made a large technology bet three years ago on a paradigm shift in the display advertising industry. More specifically, ICLK understood that the future of this business was shifting from a robust content approach where "if you build it people will come" to a targeted audience model where interClick could directly help companies run highly targeted audience campaigns to interact with specific audiences including age, location, demographic, income levels, interests, and other behavior measures. At the expense of becoming profitable sooner, the company understood to make it longer term it needed to build sophisticated software that was unique and adds value for its customers. The company has done this with its Open Segment Manager (OSM) platform.

Display Advertising

There are three majors stakeholders in this space - (Users, Publishers, and Advertisers).

Users - consume content, visits websites for information, reading, email, shopping, entertainment, etc.

Publishers - are companies like Yahoo!, AOL, MSN, CNN, NYtimes.com, etc. that are in the business of providing a compelling user experience (i.e. users will spend more time at their sites, enabling these companies the ability to monetize the pages views and ultimately maximize generating ad dollars.

Advertisers - these are businesses that are interested in targeting a specific audience such that they can earn the highest ROI on their marketing dollars and ultimately increase brand awareness, launch a new product, and ultimately increase sales for their organization. The ability to specifically target a certain audience such as (females age 30 - 45 who live in Boston, with certain income and other specific attributes) is very valuable to advertisers.

Overall Marketing Size

The internet ad market can be divided into three segments search, display advertising, and other (this includes all of other forms of advertising like email platform, etc.). With in the display advertising segment there is premium and non premium. In 2010, the domestic display advertising segment is projected to generate approximately $10.2 billion in overall revenue. The premium slice accounts for $8 billion of revenue and this is where publishers such as Yahoo! work directly with advertisers and sell ad inventory on premium portions of its website like the front page as well as frequently visited parts of its website. From a pricing stand point advertisers pay based on click per thousand and premium advertising is 2X to 5X more expensive than non premium. This leaves a $2 billion slice of the market where it is inefficient for content providers to sell inventory on a direct basis in piece mail fashion. This enables interClick and other display advertisers an opportunity to compete and more efficiently utilized this $2 billion market opportunity for all members of this ecosystem.

Open Segment Manager (OSM)

interClick has built a robust platform that utilizes:

A) Both third parties analytics data companies (including Omniture, Acxiom, Bluekai, Quantcast, and many others) and internal data.

B) Data management company information (from companies like Brilig, Aggregate Knowledge, and others)

C) Publishers - like Yahoo!, MSN, AOL, etc.

ICLK's open segment manager goes out to publishers and buys non premium ad inventory from publishers in bulk, as well as third party data and data management services, and with its OSM platform enables ad agencies to run highly targeted marketing campaign better than the competition. Its technology synthesizes vast amount of data and in the process mines for insightful nuggets of data useful for predicting behavior that generates high ROI for marketing campaigns.

How interClick makes money

interClick has visibility from its ad agencies when it wins RPFs to create tailored campaigns. ICLK then goes out to the marketplace and buys ad inventory in bulk as well as third party analytics and data management services needed to complete the campaign. For example (and to keep the numbers simple) let's assume ICLK buys these input at a cost of $1, because of its OSM platform interClick converts these raw materials and packages them into finished product in the form of a robust and coherent marketing campaign on behalf of its indirect clients (Fortune 1000 companies mostly) and its direct client the ad agencies. interClick is not unique in its ability to access third party data or buy inventory from publishers, but interClick utilizes these inputs better than the competition to create a finished product in the form of campaign. interClick is able to charge its customers almost $2 and still creates value for the ultimate customer in the form of a fully transparent marketing campaign with a high ROI. In the words of CEO Michael Katz's "what is exciting to me is that our OSM platform gets smarter every day in its ability to better predict how users will interact and respond to certain advertisements and this increases with each observation". On a daily basis, ICLK platform records 75% of all web observations or 1.5 billion user interactions per day.

Rapid Top line Growth and Margin Expansion

ICLK is taking market share and attracting more ad dollars to its platform. ICLK has grown its top line from $11.5 million in fiscal year 2007 to $55 million in fiscal year 2009. The company is projected to generate just shy of $100 million in revenue in fiscal year ending 2010. The company is only covered by four sell side firms (with the only well known firm being RBC - the others are Merriman Curhan & Ford, MDB Capital, and Noble Financial Group) and consensus revenue forecast for fiscal year 2010 is $125 million in revenue. According to ThinkEquity's research the display advertising market is project to grow 13% this year so clearly ICLK is taking share albeit from lower initial base.

Gross margins have expanded from 20% in 2007 to the mid 40%'s in fiscal year 2010. Looking at the history of other ad networks, the better companies top out at 50% gross margins and EBIT margins of 20%.

Pro Forma and Valuation

This type of company is very hard to model given its rapid growth and its small size relative to the overall market opportunity in domestic display advertising. Putting our optimistic hat on - if ICLK was able to generate $200 million in revenue before revenue starts to plateau (which would represent 10% of the non premium display domestic market measured in 2010) and assuming it can hit 50% gross margins and 20% EBIT margins as it gains more scale (now that the major fixed costs items are firmly in place) this company could earn upwards of $0.60 to $0.80 per year.

Optimistic Pro forma

Top line: $200 million

Gross margins (50%) $100 million

SG&A and all other expenses $60 million

EBIT $40 million

Taxes (35%) $14 million

Net Income $26 million

Fully Diluted E.P.S. (30.4 millions shares)$0.85

Additionally other display ad networks (although larger) have been acquired on a basis of sales at a valuation of least 3X current year sales. The fully diluted enterprise value of ICLK is currently ($5.93 x 30. 4 million shares) = $180 million. Projected fiscal year sales 2010 = $100 million and Consensus FY 2011 = $125 million.

Microsoft acquired aQuantive (ticker - AQNT) in May 2007 for $6 billion. AQNT had $442 million in revenue in fiscal year 2006.

WPP Group takes 24/7 Real Media private (ticker - TFSM) in 2007 for $649 million. TFSM had $200 million in revenue in fiscal year 2006.

Google acquired DoubleClick in April 2007 for a price of $3.1 billion. DCLK's fiscal year ended May 2005 and the company had $310 million in annual revenue.

Valueclick's current enterprise value is $1.07 billion as of November 2010. Fiscal year 2011 sales are project to be $470 million.

Sources

RBC - February 24, 2010 Report written by Ross Sandler & interClick investor presentations.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.