BLACKBAUD INC BLKB S
August 24, 2017 - 5:02pm EST by
crestone
2017 2018
Price: 83.20 EPS 2.135 2.379
Shares Out. (in M): 48 P/E 39.0 35.0
Market Cap (in $M): 3,999 P/FCF 0 0
Net Debt (in $M): 370 EBIT 0 0
TEV ($): 4,369 TEV/EBIT 0 0
Borrow Cost: General Collateral

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Description

I recommend shorting Blackbaud on its excessive valuation, low LTV/CAC, and increasing competition. By my estimates, BLKB has 60% downside to fair value.

 

Background:

 

Blackbaud provides enterprise software for non-profit organizations (NPOs). Their software helps NPOs with customer relationship management (CRM), fundraising, analytics, payment processing, and accounting. The company has about 35,000 customers in 60 countries, but nearly 90% of sales are generated in the US.

Blackbaud is the largest software provider focused on the highly fragmented NPO industry. The company estimates their TAM is worth $7 bn, growing at a 7% cagr, and is 15% penetrated.

 

The company has been going through a transition over the past decade from a license-based model to a subscription model. Currently, 65% of sales are from subscriptions to cloud-based services, up from 28% five years prior, and if one includes maintenance revenues, recurring revenue represents over 80% of total revenues. This transition has been led by a new CEO from Fiserv, who took over 3 years ago, making a strong push to move the company to the cloud. In addition to the cloud transition, the company has been aggressively acquiring adjacent companies to expand its portfolio of products serving the NPO market, with 6 acquisitions over the past 3 years.

 

Why is BLKB a short?

 

The "turnaround" that has driven low teens eps growth over the last few years and dramatic multiple expansion has come from declining net present value customer acquisitions. Over the past three years, customers have grown at ~7%, and organic revenues at ~8% a year, but sales and marketing costs have grown at 18% per year, pushing customer lifetime values near to their acquisition costs -- see historical chart below (assumes 93% retention rate and 10% discount rate):

 

 

A recent Credit Suisse report on SaaS unit economics shows how poorly BLKB compares against its peers in this metric -- it’s 6th worst:

 

 

In other words, as BLKB has shown dramatic growth, it has added limited, and progressively declining economic value while its forward P/E has expanded from 22x to 40x.

 

As BLKB has spent more and more on sales and marketing per customer acquired, it has also spent more and more on acquiring other companies to add incremental tools (analytics, online checkout, etc.), adding leverage. Over the past 5 years, the company has spent 1.4x its cash flow from operations on acquisitions -- 760 mm vs. 550 mm. These tools have not had an apparent impact on growth, and have driven net debt/ebitda to 2.7x as of the last quarter.

 

In addition, competition is sharply increasing. Salesforce offers the first 10 licenses to NPOs for free, and provides sharply discounted rates for additional licenses. Salesforce has already donated licenses to over 30,000 NPOs (vs. BLKB’s 35,000 customers), and reported a 60% growth in subscription revenues to NPOs last fiscal year (growth in number of organizations would be even higher since the first 10 licenses do not generate revenues).

 

Over time, with Salesforce’s massive scale advantage (its R&D budget is 13x that of BLKB) and open source platform where third party developers can build apps, it should be able to outcompete Blackbaud’s closed system.

 

In addition to the threat from Salesforce, there are numerous other, small, niche entrants providing cheaper alternatives. One non-profit technology expert we spoke with said that BLKB software was “pretty bad (old-looking) and there are a lot of new, cheaper tools coming on the market,” like Classy, Kindful, Neon CRM, Crowdrise, DonorPerfect Mobile Cause, Pledgeling, Givelocity, and more.

 

Hence, competition appears to be significantly increasing both from large and small players, making it difficult for BLKB to alter the downward trend in lifetime customer value/acquisition cost.

 

Valuation:

 

Even with fairly optimistic assumptions, BLKB appears overvalued. I assume the company continues growing sales with its TAM, at ~7% per year, for the next 6 years. This compares with the company’s long-term targets of 6-10% organic revenue growth. I also assume it is able to expand operating margins to 24% -- above the company’s high end target of 300-600 bps of growth from its 2014 baseline of 17.5%, and its guidance of 20.5% for 2017. With these assumptions, I arrive at a 6-year forward, normalized earnings power estimate of ~$4.18. Beyond 6 years I assume the company continues growing at market rates, and hence, I apply a terminal, discounted market multiple (~9x) to this value to arrive at an estimate of fair value of ~$34 per share, or 60% downside to fair value, today.

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Increasing competition impacts growth and multiple re-rates to an appropriate level.

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    Description

    I recommend shorting Blackbaud on its excessive valuation, low LTV/CAC, and increasing competition. By my estimates, BLKB has 60% downside to fair value.

     

    Background:

     

    Blackbaud provides enterprise software for non-profit organizations (NPOs). Their software helps NPOs with customer relationship management (CRM), fundraising, analytics, payment processing, and accounting. The company has about 35,000 customers in 60 countries, but nearly 90% of sales are generated in the US.

    Blackbaud is the largest software provider focused on the highly fragmented NPO industry. The company estimates their TAM is worth $7 bn, growing at a 7% cagr, and is 15% penetrated.

     

    The company has been going through a transition over the past decade from a license-based model to a subscription model. Currently, 65% of sales are from subscriptions to cloud-based services, up from 28% five years prior, and if one includes maintenance revenues, recurring revenue represents over 80% of total revenues. This transition has been led by a new CEO from Fiserv, who took over 3 years ago, making a strong push to move the company to the cloud. In addition to the cloud transition, the company has been aggressively acquiring adjacent companies to expand its portfolio of products serving the NPO market, with 6 acquisitions over the past 3 years.

     

    Why is BLKB a short?

     

    The "turnaround" that has driven low teens eps growth over the last few years and dramatic multiple expansion has come from declining net present value customer acquisitions. Over the past three years, customers have grown at ~7%, and organic revenues at ~8% a year, but sales and marketing costs have grown at 18% per year, pushing customer lifetime values near to their acquisition costs -- see historical chart below (assumes 93% retention rate and 10% discount rate):

     

     

    A recent Credit Suisse report on SaaS unit economics shows how poorly BLKB compares against its peers in this metric -- it’s 6th worst:

     

     

    In other words, as BLKB has shown dramatic growth, it has added limited, and progressively declining economic value while its forward P/E has expanded from 22x to 40x.

     

    As BLKB has spent more and more on sales and marketing per customer acquired, it has also spent more and more on acquiring other companies to add incremental tools (analytics, online checkout, etc.), adding leverage. Over the past 5 years, the company has spent 1.4x its cash flow from operations on acquisitions -- 760 mm vs. 550 mm. These tools have not had an apparent impact on growth, and have driven net debt/ebitda to 2.7x as of the last quarter.

     

    In addition, competition is sharply increasing. Salesforce offers the first 10 licenses to NPOs for free, and provides sharply discounted rates for additional licenses. Salesforce has already donated licenses to over 30,000 NPOs (vs. BLKB’s 35,000 customers), and reported a 60% growth in subscription revenues to NPOs last fiscal year (growth in number of organizations would be even higher since the first 10 licenses do not generate revenues).

     

    Over time, with Salesforce’s massive scale advantage (its R&D budget is 13x that of BLKB) and open source platform where third party developers can build apps, it should be able to outcompete Blackbaud’s closed system.

     

    In addition to the threat from Salesforce, there are numerous other, small, niche entrants providing cheaper alternatives. One non-profit technology expert we spoke with said that BLKB software was “pretty bad (old-looking) and there are a lot of new, cheaper tools coming on the market,” like Classy, Kindful, Neon CRM, Crowdrise, DonorPerfect Mobile Cause, Pledgeling, Givelocity, and more.

     

    Hence, competition appears to be significantly increasing both from large and small players, making it difficult for BLKB to alter the downward trend in lifetime customer value/acquisition cost.

     

    Valuation:

     

    Even with fairly optimistic assumptions, BLKB appears overvalued. I assume the company continues growing sales with its TAM, at ~7% per year, for the next 6 years. This compares with the company’s long-term targets of 6-10% organic revenue growth. I also assume it is able to expand operating margins to 24% -- above the company’s high end target of 300-600 bps of growth from its 2014 baseline of 17.5%, and its guidance of 20.5% for 2017. With these assumptions, I arrive at a 6-year forward, normalized earnings power estimate of ~$4.18. Beyond 6 years I assume the company continues growing at market rates, and hence, I apply a terminal, discounted market multiple (~9x) to this value to arrive at an estimate of fair value of ~$34 per share, or 60% downside to fair value, today.

     

    I do not hold a position with the issuer such as employment, directorship, or consultancy.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    Increasing competition impacts growth and multiple re-rates to an appropriate level.

    Messages


    SubjectRe: Competition
    Entry08/30/2017 10:15 AM
    Membercrestone

    We would point you to our chart on customer lifetime value over customer acquisition cost.  They continue to report solid growth that is not economic and actually getting worse over time.  We believe you are seeing the impact of increasing competition in the economic results of the company, just not yet in topline. 


    SubjectRe: Re: Competition
    Entry08/30/2017 11:12 AM
    MemberHTC2012

    Thanks - we have followed this company since Gianoni joined as CEO.  He has a solid track record both from Fiserv and now Blackbaud.  That said, I agree that valuation does not make any sense (no matter your stance on the short or medium-term relevance of QoE in tech).  Most importantly, when do you think revenue growth will crack (which IMO is necessary for the multiple to compress)?  What are the key signposts that suggest this is imminent?  I can't imagine the multiple will expand from here (although I'm sure FAANG shorters have been saying that for years), but if sales-growth does keep chugging along at that high single-digit rate, you are still likely fighting low double-digit earnings growth plus upside from incremental acquisitions.  


    SubjectRe: Q3 Earnings
    Entry10/26/2017 03:15 PM
    Membercrestone

    So my reading of the call is that this quarter is JustGiving's lowest seasonal quarter, and contributing 6-8 mm to Blackbaud in it. So depending on seasonality, a good deal more than $20 mm annual revs. I think there might have been some other takes that result in the 5 mm gain at the midpoint in guidance. Stifel made this comment: "This now includes a $6mn–$8mn 4Q contribution from JustGiving (closed 10/2/17) offset by a full year decline of $15mn–$20mn in Services & Other revenue compared to previous expectations to of $8mn–$10mn headwind (original guide was flat y/y)." So the acquisition multiple is lower/better for JustGiving, but the implication for BLKB's core revenue is worse... We remain short -- a 10-12% eps grower trading at 42x fwd earnings with competition...


    SubjectRe: Q4
    Entry02/07/2018 05:34 PM
    Membercrestone

    We're still short and no plans to change positioning. We think it's still way too expensive... I'd note that ex-tax, the 2018 guidance is ~2.39 -- essentially the same number I have above. The competitive threat doesn't seem to be materializing very quickly or very apparently but their gross and operating margins are down yoy and guidance implies little improvement in 2018. We would welcome data that shows SalesForce's growth in the space, but don't rely on that to hold this position. 

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