Description

We believe the current valuation and business prospects present a highly attractive investment situation with downside of $10-11 and upside of $25-30+. Over the last year, Spark has become a significantly larger company thanks to the merger with Affinitas, growing to a total of 8 brands in 29 countries and increasing revenue from $25 to $130 million all subscription based (old Spark is about 25% of revenue). We believe the online dating industry is highly attractive with over 600 million daters, 30-40% EBITDA margins, decent revenue growth, increasing barriers to entry and improving pricing power. Since becoming public, Match group (MTCH) shares are up 3x in 3 years.  Currently, LOV is about 1/13th the size in revenue of Match Group and 1/85th the market enterprise value, LOV has guided 10%+ organic revenue growth and 30-40% target adjusted EBITDA margins at scale (Match is at 37% AEBITDA margins today). For 2018, LOV is operating at 33% of targeted margins but has guided to 40-50% incremental EBITDA margins. To get an idea of the operating leverage, 10% revenue growth should lead to 40% Ebitda growth. Match has largely grown through acquisitions and is valued at 8.1x EV/2018E Revenue and 21.7x EV/2018E adjusted EBITDA vs. 1.2x EV/2018E Revenue and 10.4x EV/2018E adjusted EBITDA for Spark (and about 6x our 2019 estimate). Match and Spark have fairly similar unit economics with the exception of scale, however Spark is in the process of rapidly gaining scale (more later). LOV 2018 guidance is for revenue of USD $127-$133 million with Adjusted EBITDA of $13-18 million for 2018 (~12% EBITDA margins). We believe at $200-225 million revenue, EBITDA margins should increase significantly to 30-40% (which is both industry and company guided target EBITDA margins). If achieved, the low-end of range would result in EBITDA of $4.65 a share on a $13 stock. How will they get there? LOV has organic growth of 10-15% and about $40 million USD in untapped lines for M&A. The industry is consolidating, and smaller co’s can be purchased for 1-2x sales. LOV has done two acquisitions at effective post synergy prices of ~4.0x EBITDA, adding USD $8-12 million in EBITDA for $39M worth of purchases (AttractiveWorld at 3.4x post synergies, Spark Networks at 4-5x post synergies). LOV also has homegrown new brand potential with, for example, Silver Singles, what we believe to be a new runaway success launched in mid-December 2017. From nowhere it achieved 15% of total registrants in 1Q18, 30K subscribers within the first 5 months, and likely to end the 2018 year with 70-100K paying subscribers: see Silver Singles Google Trends. Silver Singles has subscription packages in 3,6,and 12 month increments charging $115, $165, and $240 respectively. 100K subscribers at a purchase price between $100-200 would generate $10-20M in revenue. Due to marketing investments in Silver Singles growth 2018 EBITDA is being reduced by $5-6mm (without investments EV/EBITDA’18 is 7.8X). Spark has guided to cash flow positive 2H18 for Silver Singles. Either through M&A or organic growth, we think LOV could reach scale of $200M+ in revenue over the next 2-3 years.

We believe over the next 12 months, LOV could see a significant rise in its share price through continued execution of the business plan and  on the back of new analyst coverage, real scale, and significant per share EBITDA growth off guidance of 2018 $1.00-1.30 EBITDA and our estimate for 2019 of $2.00. There are not many ways to invest in subscription based online dating (Match or Spark). The last funding round for Affinitas was done in 2010. On August 17th the company registered 515,000 shares, we believe that some investors that have been in 8 years with an estimated cost basis of $1 or so may take money off the table here. On the flip side, a former insider personally bought $12 million worth of stock last fall (Christian Vollmann) between $10-12 a share.

Where the story gets more interesting is 10-15% revenue growth at LOV should lead to +40-60% Adjusted EBITDA growth per share off the current $1.00-$1.30 per share guidance. In general, we dislike M&A but for an industry with 30-40% EBITDA margins and experienced management with a track record of M&A success, we like the idea. Furthermore, Match Group has largely been built on M&A into a $14 billion EV. For LOV, with global scale operating in 29 countries with 8 portfolio brands we think M&A in consolidating industry makes a lot of sense.

Being a network effect business, those without scale (<$100M in revenue) will end up being consolidated. M&A allows companies with good tech platforms and teams to scale operations with synergies in a value accretive way. What is needed to survive is $100 million + in revenue, portfolio of brands, global scale, access to capital. We believe many private companies are looking for a home; eHarmony (85 year old founder and owner), FarmerOnly, Zoosk (filed S1, then canceled IPO 4 years ago) and many others.

The company has $40 million in untapped lines for capital acquisitions. Paying a 1-2x EV/Sales multiple for private competitors would add $20-40 million to revenues and $8-13M to adjusted EBITDA . Spark will likely do one tuck in acquisition a year and grow beyond the 10%+ organic rate.

The social stigma behind online dating continues to fade. Tinder users spend around 90 minutes a day in-app, logging in at least 11 times. (Tinder is growing at 100%+ with 50% EBIT margins.) Facebook has decided to join the dating space. Subscription pricing is increasing in the industry and the cost to get a customer to subscribe is decreasing to $190 from $247 last year. Costs have declined and conversion rates remain stable as the societal stigma declines. Dating apps are now charging $30-60 a month and about 100 million new online daters will come online over by 2020.

What makes online dating an attractive industry?

• The whole space is a secular grower with wider acceptance of online dating
• Customers prepay for the right to supply labor and inventory.
• Most customers use more than one online service for dating
• At scale this leads to 30-40%+ EBITDA margins
• We believe US online dating is around a $3 billion in revenue with 50% market share to Match Group with an aggregate market value $25 billion (Match is at $15 billion alone)
• Match has 42% EBITDA margins with 100%+ ROE
• The industry is consolidating into a oligopoly market structure
• Low/Price to value relationship of $20-30 a month
• Few pay under 30 years old, many pay over 30 years old
• Good UX, effectively a 24/7 digital billboard, de-risks awkward first dates
• Global business

With the 2017 merger between Affinitas and Spark Networks, the resulting Spark has transformed from a subscale distressed property into a scale $130 million subscription business with 500K. Post-merger the company has:

Reverse 10 for 1 stock split.

• $5-8 million in cost synergies
• Closed LA office and transitioned tech, marketing, and operations to team in Berlin, decreasing average cost per head by 40%.
• Non-recurring merger & transaction costs of €8 million.
• Integration complete in 2017.
• Completed a €25M credit facility at ~5% interest: €15M term loan plus a €10M revolver (currently undrawn) to refinance a €6M loan with 8-9% interest and fund a €6M payout to former Affinitas shareholders as part of the merger deal.  
• In addition to the €25M credit facility, Spark has €35M in additional borrowing capacity to fund M&A.

Spark took the unusual steps of mid-summer road shows with two firms, Cowen and Stifel, right before earnings in late August. It is likely Spark will gain more coverage shortly.

Total Company growth and registrations below:

North America Subscriber Growth

2015 average - 15,240

2016 average - 46,453 (205% growth yoy)

2017 average - 83,870 (81% growth yoy)

2017 ending - 158,000

International Subscriber Growth

2015 average - 266,675

2016 average - 270,823 (2% growth yoy)

2017 average - 295,533 (9% growth yoy)

2017 ending - 307,000

Total Registrations

2015 - 5.8 million

2016 - 6.9 million (19% growth yoy)

2017 - 8.5 million  (23% growth yoy)

Spark is one out three publicly-traded online dating companies (MTCH, MEET, LOV). Only Match and Spark are 90%+ subscription oriented.  

Currently Spark trades at 1.2x Subscription revenue and ~$300/sub

Subscription comps/transactions have traded between $300 and $1,100 per sub. Match is currently at $2,500 per sub. Nuclear winter was July 2009, when Match.com acquired  PeopleMedia in the depth of the financial crisis in 2009 (from a parent company that was distressed) at $300 a sub.. A more representative transaction was Match.com’s acquisition of Meetic in 2011 for $510 per sub (equivalent of ~$20 per share for LOV). Obviously multiples have expanded significantly since 2009, but Spark trades around $300 a subscriber.

Spark has 8 major brands:
1 & 2. JDate & JSwipe: reviving brand, guidance for growth yr/yr 4Q18

3. Christian Mingle: expanded to europe, revived brand guiding for growth 4Q18 yr/yr

4. Silver Singles over 50, higher ARPU, high growth 0 to 15-20% of registrants yr/yr

5. Elite Singles: strong brand in UK, Canada, AU, and focused on US growth 83% college educated

6. eDarling (bought eHarmony’s european operations)

7. Attractive World

8. LDS Singles #1 site for Mormon singles according to Google Trends.

Catalyst

• Earnings results August 30th
• More sell side coverage from potentially Cowen/Stifel
• 40-50% incremental EBITDA margins
• Double barreled approach to growth of organic + M&A should lead to significant revenue growth
• Great business/industry at scale: 30-40% EBITDA margins (Match already there) really only 2 public co’s to invest in public equity
• Numbers are way too low w/ 1 analyst for now: She is using $10 million below guidance and the lowest end of EBITDA guidance.
• Likely placement of block, Company has done 2 non-deal road shows covering East/Midwest/West coasts with Cowen/Stifel
• Cheap: 10x 2018 EBITDA and likely 6x 2019 EBITDA
• 10-15% revenue growth leads to .40-.60 a share in EBITDA growth
• 2018 EBITDA base $1.00 to $1.30 per share
• LOV trades a significant discount to peer group comps
• Best in class operating leverage
• Consolidating industry with $40million in access to capital: M&A prices are around 1-2x sales for smaller private company’s
• 3-4 years potential to hit $4-5 per share in EBITDA