| Small & micro cap project / Activism insight

Marchex: Insightful letter from Edenbrook Capital

 

by | Jan 17, 2020

Marchex (MCHX, M.Cap: $164 million) is a call analytics company that helps businesses connect, drive, measure and convert callers into customers.

Edenbrook has been a stockholder since the first quarter of 2015 and has steadily grown its position to become the company’s largest institutional stockholder.

In September 2019, the fund noted in its SC 13D/A filing that following the company’s second quarter earnings report and conference call, as well as meetings with the company’s management, it believes that the estimates of value included in its December 26, 2018 SC 13D/A filing are more conservative than it previously believed.

The December 2018 letter that was referred in the September 2019 filing is very insightful.

Here are few notable points from the letter:

  • The Company’s management team successfully transformed Marchex from a primarily transactional business to a recurring revenue business focused on enterprise clients.
  • The company’s crown jewel analytics business is high-margin and recurring in nature.
  • Similar analytics-based public companies are trading at 4-6 times revenue, while private companies are being financed at 6-10+ times revenue.

 

 

Dear Anne, Russ and Mike:

 

Edenbrook Capital, LLC (“Edenbrook,” “we,” or “us”) beneficially owns 5,360,495 shares of Class B common stock, par value $0.01 per share (the “Class B Stock”) of Marchex, Inc. (“Marchex,” or the “Company”), representing approximately 14.5% of the outstanding Class B Stock and approximately 12.0% of Company’s outstanding common stock, including its privately-held Class A common stock, par value $0.01 per share. Edenbrook has been a stockholder since the first quarter of 2015 and has steadily grown its position to become the Company’s largest institutional stockholder.

 

Over the nearly four years of ownership, we have seen the Company’s management team successfully transform Marchex from a primarily transactional business to a recurring revenue business focused on enterprise clients. In doing so, you have put Marchex on a path to long-term, profitable and cash-generative growth. While the path to getting to this point has not been linear, the progress has been profound, and accelerated significantly this year. Over the course of 2018 alone, the Company has executed several meaningful examples of capital allocation, including:

 

1) Paying a special dividend of $0.50 per share in March

2) Opportunistically repurchasing an insider block of 2.3mm shares at $2.43 per share in May

3) Acquiring Telmetrics, an enterprise call and text tracking analytics company, in November

4) Acquiring Callcap, a call monitoring and analytics company, in December

 

Additionally, for the first time, in its third quarter 2018 earnings release, Marchex provided stockholders with segment reporting that broke out the Company’s faster-growing, higher-margin analytics revenue, which is largely recurring in nature. This high quality, software-based business, when combined with the two acquisitions referenced above, positions the Company to have a growing analytics business with more than $50 million in revenue. With the faster growing, higher-margin business expected to be more than half revenue in 2019, we expect to see meaningful pull-through effects for the Company’s aggregate financial profile. As one might have expected from this segment reporting, stockholders enjoyed an initial bounce in the stock price after Marchex’s third quarter earnings report showed how strong the crown jewel analytics business has become.

 

Despite all of these positive developments, Marchex’s Class B Stock now trades at an enterprise value of less than $70 million. One way to look at Marchex’s trading price is to say that Marchex is being valued at less than 1.4x its high quality analytics revenue, with zero value being given to the $50 million in trailing twelve months revenue from the Company’s legacy marketplace business, its $100+ million net operating loss carryforward or any of the Company’s intellectual property, including the massive conversational data set built up over many years, which is both hard to replicate and is the source of value creation for new higher, margin, recurring products.

 

We believe Marchex’s trading price of $2.63 per share (as of December 21, 2018) demonstrates a substantial discount to comparable industry valuations. Similar analytics-based public companies are trading at 4-6 times revenue, while private companies are being financed at 6-10+ times revenue. If Marchex were valued at 3 times analytics revenue (which is still a substantial discount to the market and less than Marchex just paid for Callcap), and approximately $44 million in cash were factored in, this would yield a value today of approximately $4.65 per share, which is 75% above today’s trading price of $2.63 per share (as of December 21, 2018). Adding in discounted values for the legacy business and the NOL carryforward would yield another approximately $1.60 per share, totaling approximately $6.25 per share, more than double today’s price. Further, given the continued profitable growth of the business, we expect these values to continue to expand in the coming years.

 

While the market is currently missing out on the accretive, profitable changes you are making to the business, we remain steadfast supporters of your transformation and believe that in time, the value will shine through and shareholders will be rewarded for your efforts and value creation.

 

Sincerely,

Jonathan Brolin

Managing Partner

Source: https://www.sec.gov/Archives/edgar/data/1224133/000090266418004430/p18-2291sc13g.htm

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