Description

Intersections is a leader in identity theft protection market with 4.6 million subscribers and $360mn in revenue and cheap at about .3x of revenue and right around 3x EBITDA. Intersections will spend about 120% of the current market cap in acquiring customers in 2009 (about $100mn). Last year the industry grew 22%, with Intersection’s five year revenue growth rate at 19%. IF INTX stays on its five year business plan we think the company could reach $550mn in revenue with low teen EBIT margins or $3 a share in 2012 (we think their 2007 five year business plan is off by one year +/-). We think INTX is worth between $9.75-13 a share based on 7-9x multiple of our 2009 EBITDA estimate. However, INTX core consumer identity protection business should be able to generate low $30mn’s in annual EBITDA in 2009 that will be partially masked by non-core (10% of total revenue) or total EBITDA of $27-29mn. Additionally, management has guided the non-core businesses to b/e later this year and are looking at strategic alternatives for these businesses.

Intersections businesses:

Identity Theft protection services for financial institutions: Nearly all banks and credit card companies outsource identity theft protection services to one of the following:  Affinion (private), Equifax (EFX), Credco (FADV), and Intersections (INTX). This is a relatively mature and fairly high barrier-to-entry business: bi-monthly bank audits, all been in business 10+ years, reputation/trust (access to thousands of bank credit card customer’s numbers). These four competitors cover the vast majority of the industry. First Advantage (FADV) which owns Credco is in the process of being acquired by FAF at about an 8x multiple of EBITDA. We think an appropriate multiple for this part of the business is a 6-8x multiple.

A significant portion of INTX revenue is through partnerships with financial institutions (e.g. Bank of America) the institutions are the point of contact with the costumer and INTX receives a small amount just to manage the account - $2-4/month.  Over the last 12-18 months as many of their bank/credit card partners have been under financial pressure, and consequently offered INTX to take on more upfront costs (marketing/acquiring leads – customer acquisition costs have gone $45mm, $68mm, ~$100mm for 07/08/09E respectively). Currently, Intersection is investing their own capital to acquire customers and is generating much better returns in direct relationships than indirect relationships.

Intersections direct to consumer offering is called IdentityGuard.com. In June 2009, Javelin Research awarded Identityguard.com as best in class and in May 2008 PC World gave Identityguard.com their highest rating as well. Identity Guard was launched in 2006 and is growing rapidly. We believe the current subscriber level is around 300K and the company is targeting 1 million subscribers in two-three years. Given Identity Guard has the best and deepest product suite it also has the highest COGS. There is a detailed description of Identity Guard and comparison of other competitor’s offerings:  (http://www.identityguard.com/)

SI Screening: INTX now owns 100% of this business (up from 55%). Does background checks mainly in UK. Business is clearly hurting. INTX is taking out all the costs they can and have been considering strategic alternatives.

Net Enforcers: very small product, protects trademarks, copyright, price discounting, and counterfeit goods online (revenue n/m).

Captira Analytics:  another small business that sells bail bond software (revenue n/m).

Intersections provides people with a $1mn reimbursement if their identity is stolen while a subscriber and additionally offers identity remediation services to restore the customer's identity. The average theft with damages is typically several hundred dollars and given the service, it is extremely rare to ever have your identity stolen while using any product in the industry. Since inception INTX has provided identity theft protection to nearly 20 million subscribers.

INTX is the only company in the industry with an A+ rating from the Better Business Bureau. They are highly focused on product quality and truth in marketing. INTX has the highest COGS in the industry because it has the deepest product offering in the business.

Intersections averages a 50% return on their CAC and their payback period is 12-15mos.

Regarding the consumer product subscription unit economics, the CEO talked about in the 1q08 conference call:

“On a per-ending subscriber, per-year basis; for the consumer business, - revenue is above $60, cost of revenue around $19 -- this is all per subscriber, per year -- G&A before stock expense of about $8.80, marketing about $10, commissions about $17.50, and EBITDA before stock expense around $9.”

Our calculations show very similar figures (revenues are ~$65 per sub per year).  Revenue per direct sub is ~$110/yr (and growing) while indirect is ~$26/yr.  This bodes well for additional EBITDA per sub.  Also the IdentityGuard product has even higher revenues per sub, approximately $140+/yr.  Hence the business should do ~$43mm in EBITDA FTM ($9/sub X 4.5mn subs)

Churn comments:

The attrition rate given is misleading since they INCLUDE the free trial months. Below are the CEO’s comments from a mid-2008 conference call:

“….it's an early cancel on the attrition curve. But we started that way 12 years ago. What I wish we'd done is that we only count someone who is a subscriber who is paid. And that would have changed our -- all these questions about churn over the last six years would have gone away. But we didn't. There's a high early cancel and then once people get beyond six months they tend to stay forever.. And they really do. I mean 1%, 1.5% cancel rate per month is not uncommon. And that's sort of consistent with the cancel rate of the credit card industry.”

May 2009 CEO Interview with the Wall Street Transcript

"We have several things going for us. One is that we have mass, so we have the ability to bring substantial, new services and products with critical mass. Two, we have knowledge. We have been in business for almost 14 years; we have been an innovator throughout those 14 years and have certainly been an innovator over the last two years... Three, we have a sound financial base, and we are not very leveraged. In addition, we have a very experienced team of senior managers; most have been with the company for more than five years. We have a big client base; we have a large base of financial institution partners that give us access to the market. Finally, we are in a growth market; unfortunate for many but for us it is a big opportunity as it is still a young market."

"Our services are becoming more unique. I think we will be a more technology-driven company as time goes on. This is because the market that we serve remains a growth market."

 Affinion management on July 31^st 2q09 call regarding recent market environment:

“…the Card Act that was passed by the Congress in the first quarter which is going to severely restrict the sorts of fee income that banks will enjoy in the future. We think the Card Act will be a helpful act for us because our business model is to provide our financial institutions, who are still the majority of our revenue, positive sources of fee income that enhance the relationship with their consumers.

And so I can tell you that during the first and second quarter we have seen a plethora of excellent opportunities from our partners who are looking for ways to grow their business and their fee income in a way that actually increases consumer loyalty. And so I believe that we have probably the best if not one of the best pipelines since I started this company in 1999 in terms of new opportunities.”

There is an interesting private competitor called Lifelock. Lifelock has over 1 million subscribers and has an interesting backing: CFO of Google is on the board, as well as investors that include Goldman Sachs PE, Kleiner Perkins, and Bessemer Ventures. We found a site that calculated implied PMV of LifeLock based on a May 2009 capital raise which indicated that Lifelock has a PMV of $305mn. We estimate that Lifelock has about 1 million customers and does about $120mn in annual revenue. (source: http://pedatacenter.com/pedc/blog/57)

In May 2009, Intersections competitor Lifelock hit an interesting stumbling block. A Judge "ruled that the federal Fair Credit Reporting Act (FCRA) prohibits commercial enterprises from placing fraud alerts on paying consumers’ credit reports. The partial summary judgment  was in favor of Experian, one of the big three credit bureaus, which had sued LifeLock, one of the first fraud alert placement companies." 

This ruling has had several effects: Debix a co-defendent folded the product immediately. Lifelock is appealing. In May, Lifelock proudly announced a number of prominent backers on their web site, Kleiner Perkins, Goldman Sachs and Bessemer. Today only Bessemer is mentioned. Additionally it appears that since the ruling, Lifelock is backing off on their marketing spend until their appeal is heard. The way Lifelock was doing business we would not be surprised if the company had north of 35-40% EBITDA margins due to having literally no COGS and likely spending a very high percentage of revenue on marketing. Therefore, any kind of pull back in LifeLock marketing spend may benefit Intersections. 

Intersections pays licensing fees to credit bureaus and was not part of this law suit.

Clearly banks are hurting which is a positive for Intersections. The company has three types of relationships with banks: direct, indirect, and shared. In good times more banks chose to work in an indirect model which INTX/bank share the customer acquisition cost and the revenue. In the direct model, where most banks are today, Intersections spends the marketing dollars but earns much better economics than the indirect model. See page 42 of the investor presentation; In boom times banks want more indirect and bust they want more direct.

This shift from indirect to direct is one of a couple of factors causing reduced earnings in the short-term.  Since INTX has to pay for marketing or to buy the customer outright from the partner (e.g. they bought the customers they were servicing from Citibank in 1q08 for $31mm) their expenses have gone up in the short-term while the subscription revenue is generated over time.  Another factor in reduced earnings are INTX’s non-core businesses which include background screening, bail bond software and corporate identity theft protection.  These businesses have all been hurt by the slowdown and are a considerable drag on earnings ($5-8mm drag on EBITDA – see table below).  Over the last 12 months we have seen the stock go from more than $11/sh to below $5.

Management believes they can get non-core businesses to breakeven in the back half of 2009, which would have a decent impact on earnings.  

INTX has grown revenue from $150mn to $360mn (with about $30mn from non-core businesses) from 2004-2008 or just under 20% annually. The industry grew in 2008 at 22% and there were approximately 10 million cases of identity theft totaling approximately just under $40 billion in losses.  

Business Plan: See page 52 for 5 year plan. (We think they might be pushed out by a year). We think INTX will reach their 2010 target in 2011 of $550mn in revenue and low teen EBIT margins. This would equate to about $3 per share. 

http://library.corporate-ir.net/library/17/175/175233/items/297221/INTXInvestor61008.pdf

Management: The CEO is conservative and has pretty good handle on visability, guidance from May 2008 for full year 2008 was only off by around 1-2% on most metrics. The company does not give guidance except long term targets (see investor presentation) from their five year business plan and they appear to be about a year off from their original goal set in 2007. The CEO is long term oriented and has significant expertise in this industry.

Recent CAPEX has been on CRM system and other infrastructure investments (about $10 million of the maintenance CAPEX should be around $6mn annually).

Shareholders: Loeb Partners owns 40%, Mgt 13%, Heartland Funds 13.4%, Conning Capital 9.9%

During the last recession in 2002-2003 INTX business model was much more direct (90%), they have shifted more towards indirect over the last 5 years and now are shifting back.  If you look at CF or EBTIDA margins back then, they were in the 13-15% range.  Today that would translate to ~$45mm in CF or EBITDA.  EV is $105mm, hence paying less than 2.5x EBITDA.

Experian and Credco are trading at 1.9x and 1.3x EV/Sales respectively (vs 0.3x for INTX).  They trade at 6.5x to 8.5x EBITDA

Risks:

Intersections’ biggest customer, Bank of America, generates 48% of revenue (including MBNA which BofA bought in 2006).  The BofA customers are retail/direct which means Intersections has run-off rights, so should BofA cancel their contract, Intersections has the right to service the lifetime of those customers.  In fact in 2008 Intersections lost the indirect business from Discover (stopped servicing 700-800k customers) but still maintains the direct business.  The shift from indirect to direct protects Intersections’ ownership of those customers.  Also, Intersections has a $43mm line-of-credit/term-loan through Bank of America. Net net if BOFA left today INTX would still keep all of the current subscribers and the revenue sharing deal in place until all the subscribers churned out over time.

The stock is illiquid with the mgt/board owning 52% and two other funds holding 24%.

Not sure what this quarter will look like due to more dollars being invested in direct relationships which take a little longer to generate cash than indirect relationships, but we feel better about back half of 2009 and beyond

Disclosure: This does not constitute a recommendation to buy or sell this stock. We own shares of the company, and we may buy shares or sell shares at any time without updating the board. 

Catalysts:

High growth in direct to consumer product Identity Guard

Shift and flow through more direct marketing with better economics for INTX

Cutting losses or eventual sale in non-core businesses: SI/Net Enforcers/Captira (this should improve profitability significantly)

LifeLock has adverse ruling that could create a good opportunity for Identity Guard

Cheap @ .3x sales and 3x EBITDA for a growing company in an attractive industry

Recent industry transaction (FADV) at an 8x multiple of EBITDA, INTX is growing much faster with depressed EBITDA due to non-core businesses

Catalyst

see above