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Medallia (MDLA): A Lunky Tech Company Masquerading As A High-Growth SaaS Business

|About: Medallia, Inc. (MDLA)
Summary

The purported TAM is unrealistic and overstated by at least 2x.

Accelerating growth narrative is dubious when put into proper historical context; FY 21 guidance implies organic growth will slow to lowest rate in at least a decade.

Q3 20/FY 20 guidance sandbagged, and FY 21 guidance unnecessarily provided a quarter early to prop stock price before IPO lock-up expiry.

Profitability was window dressed prior to IPO tocreate the illusion margin was turning positive.

Shares are trading at 13.1x EV/Sales, reflecting an impossible reality:  We valueMedallia’s shares at $14.12, a downside of ~55.0%.  In fact, less than a year ago MDLA’s board,with help from management and an independent valuation firm, valued its commonstock at only ~$6.50/share.                         .

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Prescience Point is short Medallia, Inc. (NYSE: MDLA) as we believe the Company has fooled investors into believing it’s an accelerating growth story with an enormous TAM and profitability on the horizon. In reality, the TAM is wildly overstated, revenue growth has massively decelerated since FY 15, and the Company is still unprofitable after nearly two decades. We believe shares are overvalued by ~55.0%.

Medallia tells investors it:

provides an enterprise Software-as-a-Service (SAAS) platform that utilizes deep learning-based artificial intelligence (AI) technology to analyze structured and unstructured data in live time from signal fields across human, digital and Internet of Things (IoT) interactions at great scale to derive personalized and predictive insights. (S-1, 06/21/19)

That’s a very fancy way of saying they sell a platform to manage customer, business, employee, and product experiences via surveys and other signal fields. The Company was founded in 2000 by a husband and wife duo that shared management responsibilities until a new CEO was brought in during the summer of 2018. Shortly thereafter, Medallia announced it would go public and filed for its initial public offering (IPO) in July 2019.

Despite being a “unicorn,” Medallia has flown relatively under the radar as a public company and avoided much of the fanfare and scrutiny experienced by some of its counterparts. Nevertheless, we believe Medallia is more overvalued but less understood than many of its famous technology peers.

Although Medallia has a near two-decade operating history, the Company took advantage of certain reduced SEC reporting requirements that allowed it to only disclose two years of historical financial statements in its IPO Prospectus filings. In addition, the Company buried certain disclosures about unflattering realities and deteriorating financial metrics. This sleight of hand allowed the Company to curate a narrative about accelerated growth with profitability that is egregiously misleading. Not surprisingly, the sell-side (many of which underwrote the IPO) has perpetuated Medallia’s narrative with near consensus “buy” ratings and lofty price targets.

During our months long due diligence, we spoke with former employees and customers as well as conducted an in-depth forensic accounting analysis. In addition, we uncovered old interviews with Medallia executives and other publications that contained historical financial information (albeit limited) that was in stark contrast to what the Company (and the sell-side) has peddled to public investors. Specifically, we believe:

  • The purported TAM is unrealistic and overstated while the actual market opportunity is only a fraction of what Medallia has pitched investors
  • The accelerating growth narrative is dubious when put into proper historical context
  • It’s even more suspect considering Management’s commentary about growth trends during the IPO Roadshow coincided with contradictory language added to its Risk Factors
  • The Company purposefully sandbagged Q3 20/FY 20 guidance so it could “beat and raise” and provided better-than-expected FY 21 guidance a quarter early to pump as much positive news into its last reported quarter before the IPO share lock-up expired
  • Revenue is inflated by tuck-in acquisitions guised as technology-focused M&A
  • FY 21 organic revenue growth will be below 20.0% for the first time in over a decade
  • Profitability was window dressed prior to IPO to excite prospective investors about margin improvement
  • Slower net customer additions and accelerated churn will meaningfully pressure growth prospects
  • Mid-market pivot will be more challenging than Medallia lets on as the current enterprise platform is not scalable
  • Long-term margin guidance is unrealistic as Medallia still isn’t profitable after 20 years
  • Insiders are looking to cash out as founders recently sold ~20% and CTO sold ~10% of their stake
  • Lock-up expiration on 01/15/20 could prompt a wave of selling as more than 6x the float became available to trade

Medallia currently trades at 13.1x FY 20 EV/Sales, modestly above the peer group average. We believe Medallia should trade closer to the low-end of the peer group at 5.5x EV/EBITDA as it has below average revenue growth and gross margin and no profitability. In addition, the broader financial community has understated Medallia’s current valuation by failing to account for certain dilutive stock options and RSUs. The actual diluted share count is ~40.0% higher than what many sell-side analysts have used in their models. Based on our more conservative EV/Sales multiple and the correct share count, we value Medallia’s shares at $14.12. In fact, SEC documents show Medallia’s board of directors (with inputs from management and an independent third-party valuation firm) valued its common stock at only ~$6.50/share as recently as Jan. 2019.

Disclaimer

This research report expresses our research opinions, which we have based upon certain facts, all of which are based upon publicly available information, and all of which are set out in this research report. Any investment involves substantial risks, including complete loss of capital. Any forecasts or estimates are for illustrative purpose only and should not be taken as limitations of the maximum possible loss or gain. Any information contained in this report may include forward looking statements, expectations, and projections. You should assume these types of statements, expectations, and projections may turn out to be incorrect for reasons beyond Prescience Point Capital Management’s (“Prescience Point”) control. This report should only be considered in its entirety. Each section should be read in the context of the entire report, and no section, paragraph, sentence or phrases is intended by its authors to stand alone or to be interpreted in isolation without reference to the rest of the report. The section headings contained in this report are for reference purposes only and may only be considered in reference to the detailed statements of opinions in their respective sections. This is not investment advice nor should it be construed as such. Use of Prescience Point’s research is at your own risk. You should do your own research and due diligence before making any investment decision with respect to securities covered herein.

You should assume that as of the publication date of any report or letter, Prescience Point (possibly along with or through our members, partners, affiliates, employees, and/or consultants) along with our clients and/or investors has a short position in all stocks (and/or are long puts/short call options of the stock) covered herein, including without limitation Medallia, Inc. (“MDLA”), and therefore stands to realize significant gains in the event that the price of its stock declines. Following publication of any report or letter, we intend to continue transacting in the securities covered therein, and we may be long, short, or neutral at any time hereafter regardless of our initial recommendation.

This is not an offer to sell or a solicitation of an offer to buy any security, nor shall any security be offered or sold to any person, in any jurisdiction in which such offer would be unlawful under the securities laws of such jurisdiction.

To the best of our ability and belief, as of the date hereof, all information contained herein is accurate and reliable and does not omit to state material facts necessary to make the statements herein not misleading, and all information has been obtained from public sources we believe to be accurate and reliable, and who are not insiders or connected persons of the stock covered herein or who may otherwise owe any fiduciary duty or duty of confidentiality to the issuer, or to any other person or entity that was breached by the transmission of information to Prescience Point. However, Prescience Point recognizes that there may be non-public information in the possession of MDLA or other insiders of MDLA that has not been publicly disclosed by MDLA. Therefore, such information contained herein is presented “as is,” without warranty of any kind – whether express or implied. Prescience Point makes no other representations, express or implied, as to the accuracy, timeliness, or completeness of any such information or with regard to the results to be obtained from its use.


Disclosure: I am/we are short MDLA.