Description

Summary

Please see om730’s (https://www.valueinvestorsclub.com/idea/ATENTO_SA/1810179123) and skimmer610’s (https://www.valueinvestorsclub.com/idea/ATENTO_SA/8961458072) write-ups for more of a background on this special situation.  We believe that the opportunity is acute, timely, and opportunistic.  We will spare a lot of the background on the Company other than some critical highlights (see Exhibit 1).  Please note that the thesis for this investment is not new to investors; many have expressed similar views for quite some time.  

Situation Update

The stock has been hammered over the last five years due to mediocre operating performance (see Exhibit 2 and Exhibit 3).  The COVID-19 market crash has created an opportunity to purchase the stock with a significant margin of safety.  The stock is priced as if the Company will not be able to refinance its debt, have no resolution to its PE overhang, and new management cannot improve margins.  

Management Changes

In 2019, Atento made drastic overhauls to its management and operational teams (see Exhibit 6).  The Company’s old management had failed to stop the hemorrhaging of poor revenue growth and EBITDA margin performance.  New management has put out various plans (e.g. strategic, operational, financial, shareholder focused, etc.) over the last six months.

Operational Improvements

Management has shown strategic paths to improve revenue growth (e.g. U.S. expansion, next-generation CRM/CX/BPO, cost efficiencies, etc.) and to achieve 14-15% EBITDA margins by 2022 and 12%-13% EBITDA margins by the end of 2020 (Inc IFRS16).  BPO/CRM publicly-traded companies with EBITDA margin greater than 10% trade at 7x multiples, while ATTO trades at 3.5-5.0x multiples.  The Company’s market capitalization of ~$120 million makes it one of the smallest publicly traded BPO company in the world, which could also impact fair valuations.  

Debt Refinancing

ATTO has approximately $503 million of debt outstanding due August 2022 and $125 million of cash for a net debt of $408 million (ex IFRS16).  Currently, Net Debt / EBITDA is 2.6x while EBITDA / interest expense is 3.2x.  Management and the board are focused on refinancing or extending its existing debt.  With operational improvements and a resolution to Bain's control this year, management believes that it can achieve this goal. 

Bain Overhang Resolution

In May of 2014, Bain Capital took out a loan with select name brand institutional investors for nearly $380 million broken into Euro and USD loans and collateralized it with 67 million shares it owned at the time.  Based on our research and discussions with management, we have speculated who these investors might be, but we will save that conjecturing in the private comments below.  Essentially, Bain sold a put to these investors for around $5.60 per share.  It is unclear what Bain’s basis was in its original LBO in 2012, but it might be safe to assume that they got a decent percentage of their original investment basis back in this deal.  PIKco, a Luxembourg company that Bain controls and which owns Bain’s shares in Atento, made the loan with a 13.25% PIK interest.  Public available information from Luxembourg’s company registrar (see Exhibit 7) shows that it redeemed $62 million of its PIK notes in Atento’s IPO.  Bain redeemed these PIK notes with IPO proceeds in October 2014.  Since the IPO, the PIK notes have accumulated capitalized interest.  We calculate that by May 2020, the maturity date, Bain will owe ~$430 million.  Bain currently owns 48.5 million shares, implying a current loan value of ~$9 per share.  

We believe that the PIK note maturity has placed the most significant shadow of uncertainty on the stock.  By May 2020, Bain’s investment in Atento will be eight years old.  Furthermore, it is unclear whether the PIK investors want to own shares transferred from Bain, since it is unclear who these investors are.  Furthermore, if the PIK investors do accept these shares they will not only have had exposure to Atento for six years, but they will also have control of a Company that they may or may not want to manage.  The concern is that if this is true, then PIK holders will want to register and sell these transferred shares immediately in the open market, putting a real overhang on the shares.  

We have spoken with management, and they have informed us that Bain wants to resolve this issue promptly while avoiding the scenario just outlined.  Furthermore, PIK investors support management’s new plans and will not try to interrupt these processes.  They would plan to support management until plans are executed.

Our view is that the PIK investors are not long-term investors in the Company.  It is safe to assume that they will sell the company upon meaningful improvements in the operations, and hopefully the stock price. 

Path to Valuation Realization

It is still unclear whether any of the investment points above will help the stock improve to fair valuation as long as the float is small and trading in the stock is thin.  It is our view is that the stock should appreciate as operating performance improves, however it is unlikely that once the operational performance is achieved valuation will get higher than $8 per share.  We believe that it is most likely that a sale of the business to either a strategic or financial sponsor will most likely be the outcome to achieve valuation for the stock. 

We currently value the stock at $7 per share and are buyers of the stock below $3.50 per share to give our analysis a sufficient margin of safety.  

Catalysts

Unfortunately, we see two meaningful catalyst occurring in the near future despite the stock being highly illiquid with a market capitalization of under $110 million: (i) the resolution of Bain Capital’s PIK loan, (ii) meaningful operating performance execution by new management; (iii) share buyback execution (iv) refinancing of its existing $503 million debt outstanding.  

Company Overview

Atento is the largest provider of customer relationship management and business process outsourcing services (“CRM” and “BPO”) in Latin America and one of the top five providers worldwide based on revenue (see Exhibit 8).  They allow 400 different clients to connect with over 500 million of their customers.  It has long-standing relationships with blue-chip clients (see Exhibit 9).  ATTO uses 100 contact centers in 13 countries, globally, to serve clients.  They have over 151,000 employees and over 91,000 workstations, globally. Atento has a highly recurring revenue business.  

Its business was founded in 1999 as the CRM BPO provider to Telefónica and its subsidiaries (together, the “Telefónica Group”). It became an independent company in December 2012, when it was acquired by Bain Capital Partners.  In October 2014, Atento became a publicly listed company on the New York Stock Exchange.  It evolved from being the exclusive back-office CRM service provider for Telefónica to the #1 player CRM company in Latin America (see Exhibit 10).  Its current value proposition includes traditional, voice-type call center services like sales, customer care, technical support, collections and back office.  However, the Company is targeting key industry growth areas such as omnichannel, digital marketing, complex voice, mix human agent / chatbot, back-office, hyper personalization, gig economy, and agent profiling. 

The Company’s largest client is Telefónica.  A significant portion, 39.0% respectively, of its revenue are from companies within the Telefónica Group.  As part of Bain Capital’s acquisition, Atento entered into a Master Services Agreement (“MSA”) for the provision of certain CRM BPO services to Telefónica by having Telefónica companies purchase Atento service governed at certain minimum revenue targets.  This contract has been modified twice but is in effect through 2023.  As a result, the Company currently has 32 companies within the Telefónica Group that are party to 132 arm’s­ length contracts with Atento.  Its contracts with Telefónica Group companies in Brazil and Spain comprised nearly 60% of its revenue from the Telefónica Group.  Atento’s 15 largest client groups (including the Telefónica Group) account for a total of 75.2% of its global revenue.

Outsource providers with facilities in Latin America and blended delivery models (i.e. onshore, offshore, nearshore, home-agent, automated solutions) are driving U.S. demand.  Rising costs, instability and low levels of service quality in other areas of the world have pushed many U.S. companies toward Latin America.  The Company believes that EBITDA margins in U.S. could provide close to 19% EBITDA margins over the next five years (see Exhibit 11). 

Industry Overview

The global customer management is a mature yet growing market.  The market is expected to grow to $102 billion globally and $12 billion in Latin America by 2022 (see Exhibit 12).  Yet new revenue streams still emerging.  The next generation of client experience (“CX”) services most impactful to the market are (i) Omnichannel, (ii) digital marketing, (iii) complex voice, (iv) mix human agent / chatbot, (v) back-office, (vi) hyper personalization, (vii) gig economy, and (viii) agent profiling.  Many of these services are already in many developed countries, like the U.S. and Europe, but are just getting out nascency in Latin America, as infrastructure and company sophistication improve.  However, revenue growth is in the low single-digits because the customer management competitively priced.  This will continue as larger, more efficient players control global pricing bundling services for customers.  Despite these trends, Atento’s client base is relatively sticky due the high switching costs of workstations and customized back-office services for many clients.  As result, Atento’s revenue is highly recurring, the main driver for Bain Capital investment thesis.  Atento will continue to provide world-class next generation services to increase revenue the stickiness of its revenue stream (see Exhibit 13).

Debt Overview

The Company is highly levered due to Bain Capital’s LBO in 2012.  Leverage has pressured the stock over the last five years due to the Company’s poor operating performance.  Moreover, recent accounting changes (i.e. IFRS 16) has forced companies to include leases in debt disclosures, which have impacted Atento’s reporting.  Large lease expenses create confusion in measuring fixed charge ratios for many investors.  The Company has $533 million in total debt, $721 million including leases.  Net debt stands at $408 million, $596 million including leases (see Exhibit 14).  Atento’s debt matures in August 2022 (see Exhibit 15).  According to the Company’s measurements, its coverage ratios (i.e. Net Debt / EBITDA) appear to have stabilized at 2.6x. (see Exhibit 16). The Company believes that ongoing operating improvements and should boost debt ratios and allow Atento to successfully extend or refinance its debt.  Management is currently focused strongly on its improving debt outlook.  Average interest rates stand at 7%.  

Company Valuation

Industry valuation in this industry are based on high sustainable EBITDA margins.  The strongest EBITDA margin companies (e.g. Teleperformance, Infosys, Telus, etc.) command the highest valuations based on EV / EBITDA multiples.  In fact, companies with margins lower than 10% have the lowest valuation levels (see Exhibit 17).  Making matters worse, Atento’s small market capitalization and thin float trading levels have punished the stock’s (see Exhibit 3) poor operating performance.  As discussed above, the board of directors have made critical management changes to improve operations in light of these facts.

The Company repurchased 1.3 million shares for a total of $3.4 million during the fourth quarter. A total of 4.4 million shares were repurchased during the year, for a total of $11.1 million.  On February 26, 2020, Atento’s board approved a new share buyback program.  The program authorizes the Company to purchase up to $30 million over the next 12 months, beginning March 2020. We estimate that the buyback will start in the mid of Q2 due to seasonality in CF.  Management believes this should bolster valuations given how cheap the stock trades.  The only issue here is that repurchasing $30 million worth of stock at current price levels could wipe out more than 10 million shares of float, reducing the existing trading float by almost 50% to 11 million shares.  Given how thin the stock currently trades, this could create stagnation in the stock price appreciation, despite potential operating improvements and efficient use of capital.  As discussed above, valuation readjustment could take time, but could be accelerated as the PIKco overhang resolves itself, refinancing of its existing debt is clear, and potential larger bidders (financial or strategic) circle an improving operational, highly recurring revenue going concern in Atento.

EBITDA Margin Improvements

2019 proved to be a key year in management turnover and key hires.  Carlos López-Abadía and Gustavo Tasner came in as CEO and COO, respectively (see Exhibit 6).  More importantly, Dimitrius de Oliveira has come highly touted as the person to turn around operations on the ground.  Management has promised better revenue mix and program returns, which should improve EBITDA margins in 2020.  Management has guided toward EBITDA margins of 12% to 13%, improving to 14% to 15% by 2022 (see Exhibit 18).  Currently margins are at 8% to 9%.  As a result, Atento is trading around 4.0x to 5.0x EBITDA (see Exhibit 17), one of the lowest levels for its peer group, but rightfully so at current operating performance.  Assuming sustainable and visible EBITDA margin improvements of 13% should result in valuations of close to $7 per share (see Exhibit 19).  At current levels price levels of $1.70 per share, should provide a substantial margin of safety for investors, nearly a 300% return from current levels.   

There is a significant needle to thread for management, but even a price appreciation to $4 per share at current levels should provide adequate returns for patient smaller investors.  

Recommendation

We believe that at current levels, of ~$1.70 per share or below, should provide an adequate margin of safety for an investment in ATTO’s stock, as this valuation should capture the potential uncertainties in Bain Capital’s PIK overhand and reinfnacing of its existing debt.  Given the illiquidity and size of the stock, we recommend this investment as a retail investor trade and patiently buying as shares become available.  

Risks to Investment

Due to its low trading volume, around $200k to $600k of market cap trade in a day.(see Exhibit 3), we believe that meaningful ownership will be difficult for large institutional investors.  This stock is primarily for personal accounts or smaller investors.  Current risk to our thesis includes investment illiquidity, management operating delays and catalyst failure to substantiate.

Additional Unanswered Questions for Management

1. How can we confirm that PIK holders truly would not mind holding the shares from Bain?

2. What are your plans for refinancing?

3. How do you think about share buy-backs and lowering the tradable float?

Catalyst

Unfortunately, we see two meaningful catalyst occurring in the near future despite the stock being highly illiquid with a market capitalization of under $110 million: (i) the resolution of Bain Capital’s PIK loan, (ii) meaningful operating performance execution by new management; (iii) share buyback execution (iv) refinancing of its existing $503 million debt outstanding.