Description

Summary and Thesis:

At current levels, we believe that Atento (NYSE: ATTO) represents a highly compelling risk/reward.

ATTO is the largest customer relationship management / business process outsourcing (CRM/BPO) company in Latin America, with dominant market shares in key geographies.

The case for ATTO is straightforward:

-          Shares are cheap – on 2018 numbers, shares trade at 4.5x EBITDA, 6.7x EBITDA less CapEx, and an 11%/13% unlevered/levered FCF yield.

-          We think it’s clear why shares are cheap – terribly received IPO (2014), terribly received secondary (late 2017), controlling shareholder overhang (Bain owns 66% of the Company), lack of natural shareholder base (pan-LatAm company, foreign filer, US listed), disdain for LatAm, etc.

-          Catalyst to drive shares higher – the company is now repurchasing shares, the business is performing well, and Bain will ultimately need to exit its holding which will require either a meaningfully higher public share price or a sale to a strategic or financial buyer.

Accordingly, we believe ATTO offers a mispriced opportunity where fundamental downside is minimal (so long as one hedges out relevant LatAm macro and FX risk) and fair value is 50%-100%+ above current levels. We expect to realize value as the Company continues to execute on its stated goals or the Company is acquired by a strategic or financial acquirer. 

Overview of Company and Industry:

ATTO was formerly party of communications giant Telefonica (BME:TEF) and was spun out in a December 2012 sale to Bain capital for €1.05bn ($1.37bn at then FX rates).

We’ll hit on the key points of the business here, but we’d refer readers to om730’s 2015 pitch, or the Company’s annual report or presentation for further details. [At the end of this write-up we’ve also pasted a handful of slides from the Company’s most recent presentation that provide a helpful overview.]

-          ATTO is the third largest CRM/BPO company after Teleperformance (ENXTPA:TEP) and Covergys (NYSE:CVG).

-          ATTO performs various services on behalf of its clients and core activities include customer support, sales and marketing, collections, loan processing, and a whole range of other back office functions.

-          ATTO’s business is characterized by long term contracts, highly recurring revenues, and extremely high (99%) customer retention rates.

-          The LatAm CRM/BPO market is much more concentrated than the US market – whereas in the US the top three players combined account for less than 20% of the market, ATTO has a 20% market share across LatAm and meaningfully higher market shares in certain markets.

Relationship with Telefonica:

Currently, TEF represents 39% of ATTO’s revenue.

Upon its separation from TEF and sale to Bain, ATTO signed an MSA with TEF (technically multiple MSAs with various Telefonica subsidiaries) guaranteeing minimum revenue levels through 2021. That agreement was subsequently restructured to allow for a more gradual roll-off of the MSAs from 2021-2023.

We don’t expect anything material to come from the termination of the MSAs, based on the following factors:

-          Typically, a company’s preferred CRM/BPO provider has 30%-35% wallet share of the client, with the balance split amongst 3-4 other providers. Although ATTO doesn’t disclose its wallet share of TEF, it does say that it is less than 50%.

-          Based on our research, TEF is very happy with ATTO. In fact, ATTO seems to be taking share within TEF. Revenues from TEF grew 4.4% in 2Q18. It is no easy task to displace CRM/BPO incumbents, and if TEF is pleased with ATTO then there is no reason for it to materially shift the amount of business it does with ATTO.

-          Based on current growth trends of TEF and non-TEF business and based on commentary from the Company, we expect that TEF will represent ≈30% of ATTO revenue by the time the MSAs roll-off.

Taking everything into account, it would seem that the worst case outcome is that ATTO’s wallet share with TEF declines by 1000 bps. That would translate into a 300 bps hit to revenues. While not positive, it is also not a thesis deal breaker.

We expect the actual outcome will be benign for ATTO.

Cyclicality / performance during macro weakness:

ATTO operates in a region prone to fairly significant and frequent macro hiccups. We believe that ATTO’s business is highly resilient in the face of such headwinds.

The Brazilian economy went into a severe recession during 2015 and 2016 and most of LatAm was generally in the doldrums. Despite that, on a constant currency basis ATTO grew strongly in 2015, experienced a slightly contraction in 2016, but rebounded nicely in 2017 and so far in 2018.

We are also not concerned with ATTO’s ability to pass through inflation. LatAm is a region where businesses are very experienced in dealing with bouts of severe inflation and based on our research ATTO has proven capable of passing through inflation.

Business and management quality:

ATTO is a mediocre business. We’re not going to argue that a CRM/BPO services company is anything but.

That said, we do believe ATTO is a very well run business. We have spoken with many competitors, formers, customers, and industry consultants and the feedback has been overwhelmingly positive regarding ATTO’s capabilities, execution, and service. ATTO management (in particular the CEO) has received exceptionally high marks.

For our part, we have found management to be very candid and thoughtful about their business.

Medium and long-term prospects:

At a high level, there are two conflicting medium and long term trends that will impact ATTO’s business:

-          (Positive) Structural growth in LatAm – the penetration rate of CRM/BPO services in LatAm remains dramatically below that of developed markets. Indeed, developed markets have likely plateaued and are now receding (in part due to the second factor we’ll discuss) while LatAm should continue to benefit from structural growth.

-          (Negative) Structural decline in certain services – technology, automation, AI, etc. are all putting pressure on traditional CRM/BPO services. Specifically, call center agents are being displaced by multi-platform agents, voice automation, etc. We expect this headwind to intensify and so does the Company. We found ATTO management to be very frank in addressing the issue and the threats and opportunities it presents. Nearer term, ATTO has (over the last few years) taken proactive steps by focusing on higher value added solutions (which, per the Company’s definition, represent 26%+ of revenues). Longer term, the Company recognizes that a lot more value added solutions plus a general orientation towards serving as technology consultants, implementation specialist, administrators, etc. is key. The silver lining of the transition is that more technologically intensive solutions are less capital and labor intensive and therefore feature higher margins and higher ROIC. If ATTO successfully transitions the business, shares should ultimately be rewarded with a higher multiple.

For the foreseeable future, we expect the positive and negative trends will be a wash and ATTO will continue to grow revenues at mid-single-digits on a constant current basis.

Set-up / Valuation and Risk / Reward Profile:

As we said at the outset, we think ATTO is mispriced for a variety of reasons: terribly received IPO (2014), terribly received secondary (late 2017), controlling shareholder overhang (Bain owns 66% of the Company), lack of natural shareholder base (pan-LatAm company, foreign filer, US listed), disdain for LatAm, etc.

It’s worth highlighting just how bad the November 2017 secondary was because it – more than anything else – is why the current opportunity exists: the secondary was announced in November 2017 when shares were trading at over $12. I’m not sure why Bain thought they could successfully place 14mm shares. In any event, due to very poor liquidity, little investor awareness, general skittishness towards LatAm, etc. the secondary was extremely poorly received and ended up going off at $9.00. Shares have been weak ever since.

1H18 results were ok. Revenue growth on CC basis has been at the high end of guidance, but EBITDA margins underwhelmed due to some factors which the Company expects to improve upon in 2H.

On 2018 numbers, shares trade at 4.5x EBITDA, 6.7x EBITDA less CapEx, and an 11%/13% unlevered/levered FCF yield (excluding first year working capital build associated with new business). We think that’s far too cheap.

For reference, here are some notes on peer valuations:

-          Convergys (NYSE:CVG):

o   The acquisition of CVG was announced in June 2018 at a price equating to (LTM basis) 8.4x EBITDA and 10x EBITDA less CapEx

o   Revenue has been declining (on a constant currency basis flat in 2016, down 4.2% in 2017, down 8.6% 1H18)

o   Very similar margin profile to ATTO

-          Sykes (NASDAQ:SYKE):

o   Trades at (LTM basis) 7.5x EBITDA and 11.5x EBITDA less CapEx

o   Revenue has been growing on a constant currency basis at about the same pace as ATTO

o   Moderately lower margin profile vs. ATTO

-          Teletech at (NASDAQ:TTEC):

o   Trades at (LTM basis) 8.0x EBTIDA and 10x EBITDA less CapEx

o   Very similar margin profile to ATTO

-          Teleperformance (ENXTPA:TEP)

o   Trades at a mid-teen EBITDA multiple

o   TEP is rightfully viewed as best in class, but we view the multiple differential as extreme. TEP does highlight the massive multiple expansion ATTO could experience if it got a lot of things right.

The valuation snapshot below reflects our views of a reasonable range for ATTO’s fair value. The valuations are further supported by DCF and LBO models incorporating similar assumptions:

Catalyst

-          Company announced a $30mm buyback with 2Q18 earnings. Given low liquidity and low float, we expect this buyback will (continue to) move shares higher

-          Underlying business performance

-          Removal of Bain overhang

-          Sale of Company

Risks

-          Execution

-          Macro / FX

-          Secular/structural headwinds

Business Overview Slides:

(http://s2.q4cdn.com/417650269/files/doc_financials/quarterly/2018/q2/Q2-2018-Atento-Earnings-Presentation-07-30-18.pdf)

Catalyst

Catalyst

-          Company announced a $30mm buyback with 2Q18 earnings. Given low liquidity and low float, we expect this buyback will (continue to) move shares higher

-          Underlying business performance

-          Removal of Bain overhang

-          Sale of Company