Description

Short Veritone, Inc. 

Overview

Veritone is a $530m unprofitable, low-growth full-service advertising agency and content licensing business masquerading as an “AI company”. Veritone has rolled-up revenues from several small flatlining-declining digital media content businesses and labeled them as AI sales, enabling a 10x NTM sales multiple, vs 1-1.5x multiples for comparables to 80% of VERI’s revenues. While Veritone indeed sells video/transcription software, they compete in an extremely competitive environment with poor relative value proposition, as evidenced by lackluster growth. We believe VERI’s stock has 70% downside from current prices, driven by (1) continued disappointing growth and (2) ongoing capital raises to finance cash burn. The stock has traded up ~1,000%+ from March lows on fluffy PRs and without material turnaround in the business. Instead, management has recently made the strategic concession to focus on “cost-cutting” which speaks volumes about future growth prospects for this business as revenue growth has grinded to a near-halt on $24m LTM cash burn.

Veritone operates in three segments: (1) a full-service advertising agency focused on radio/television – 50% sales, (2) a media content licensing business – 28% sales, and (3) aiWARE SaaS sales – 22% sales.

The company has historically funded itself via share issuance, typically through a $50m JMP ATM which included $25m in FY19 proceeds, and specifically $10m raised at ~$2.71 between 4Q19-1Q20, or ~14% dilution at a $60-70m valuation. There’s $22m remaining under the ATM.

Thesis

Veritone and the Steelberg brothers have been selling a dream of creating an “operating system for AI” over the last 5+ years which has consistently failed to materialize. Their idea was to establish a platform for AI applications produced by both 3rd parties and VERI (essentially replicate and compete against AWS Marketplace). This AI SaaS business has been bull case surrounding VERI for years; it has been perpetually on the “verge of inflection”. Unfortunately, this dream has resulted in serial disappointment to shareholders and is unlikely to ever exist given VERI’s precarious competitive positioning relative to their competitors: the best-capitalized companies in history, including AMZN and MSFT. Evidently this dream has also failed to gain any traction with any notable technology or VC investors. The table below shows VERI’s revenue growth sputtering even before the pandemic struck in March 2020. Even excluding the ~$1.5m COVID impact, VERI grew just 11%, down from 14% the y/y in the prior quarter.

Faced with high expectations and flatlining revenues, VERI management appears to use disingenuous segmentation and labeling to present a picture of a significant and growing artificial intelligence business. Prior to a series of acquisitions, Veritone was a full-service ad agency (comps typically trade at 1.0-1.5x sales). After going public and severely missing expectations around their AI business, VERI hit a $30m Jun 2018 secondary and acquired more businesses to “build out their AI segment" and complement the existing advertising agency. The current “artificial intelligence” business was predominantly acquired and then built from a then-significantly distressed digital content management platform (customers upload content and are provided store/sort/search tools). The acquisition, Wazee Digital, formed the Content Licensing segment and ~50%+ of aiWARE SaaS segment at acquisition. This acquired “AI SaaS” company notably did not market itself as AI SaaS and was acquired for 0.7x LTM sales. Wazee Digital (and now Veritone) competes in an intensely competitive largely commoditized industry of digital content management and saw the business decline by “half” between 2015-2017 according to a Glassdoor review (which also described the company as a “sinking ship”), as well as an additional 37% y/y decline in FY18 according to pro-forma documents. Wazee also churned 4 CFOs and 3 CEOs in 24 months prior to acquisition. Wazee was also “EBIT break-even” at acquisition.

Wazee Sales; Wazee Declined 41% y/y in 4Q18

The remainder of the aiWARE SaaS business are VERI’s native AI applications, primarily CMS, Discovery, and Collections which are sold to radio/television broadcasters (there is also a notably consistent denigration of these products by VERI employees on its’ Glassdoor page, including claims “they don’t work”).

VERI wants to create a marketplace platform for AI applications, which is substantially the same opportunity, among others, pursued by Amazon’s AWS, Google’s Google Cloud, and Microsoft’s Azure. VERI is unlikely to succeed in this opportunity given relative lack of financial resources and the competitive moat (switching costs, etc.) surrounding the cloud model.

The bull thesis presented by the street is now surrounding VERI’s ability to sell its’ redaction and video recognition software into large government contracts. However, agreements thus far have been primarily FOIA-related one-time agreements for small police stations. This is also a difficult market to compete in, with many similar software pure-play offerings as well as market leader Axon Enterprise’s bundling with a suite of complementary products, including body cameras. Axon Enterprise also offers their software for free to prosecutors and others in the legal system as they look to create a network effect-based competitive advantage around their body cameras/ecosystem.

The remainder of the business, a full-service advertising agency, sells into a melting ice-cube radio/linear television customer base and must offset via growth in digital, a difficult transition as digital is a far more competitive niche dominated by FB/GOOG/AMZN. The other large acquisition following their secondary was Performance Bridge Media, a full-service ad agency focused on podcasting, which is now in the Advertising Segment.

These 2H18 acquisitions were fully lapped in 4Q19, exposing nearly nonexistent organic growth (6-mo ended 1Q20 revenues were up 5.6%) and resulted in a rash of sell-side downgrades as well as VERI’s strategic concession to focus on cost-cutting (at the implied expense of revenue growth). Nevertheless, the stock has traded up 10x due to a barrage of PRs, retail investors searching for a “riot play”, and a “leaked” $210k DOJ contract which was mis-reported as a $210m contract on at least 5 websites (1, 2, 3, 4, 5, off by 1,000x). Meanwhile, COVID has impaired VERI’s content licensing business, which has large exposure to live sports: Roth estimates that 2\3Q20 content licensing and media revenues will fall 28\23% y/y, resulting in ~2% consolidated FY20 revenue growth.

VERI now trades at ~10x NTM sales. Meanwhile, full-service ad agency comps trade at ~1x sales and the revenue base for VERI’s aiWARE SaaS segment was acquired for ~1x sales, implying the large majority of VERI revenues should be valued in a similar way. This would not be surprising, given the poor growth and negative margin profile of this business.

VERI’s government/legal/compliance aiWARE SaaS bull thesis appears unlikely to generate significant cash flow nor justify this valuation differential.

In fact, on a SOTP basis, if VERI’s content licensing and advertising businesses traded in-line with comps, there is an implied ~32x EV/FY20 Sales multiple on VERI’s aiWARE SaaS segment, even though they’re ~50% revenues from a business that was acquired for <1x sales!

However, unlike these peers, VERI has been incapable of generating cash flow.

VERI’s $49m cash balance isn’t representative of its’ liquidity, as there is a roughly ~$25m balance which is due for end-customers. For example, customer A is buying $X worth of ads from customer B. VERI effectively brokers this transaction and transfers the $X consideration This is not accessible liquidity and needs to be accounted for in a net cash calculation. With ~$25m in net cash and a ~$24m TTM cash burn, VERI is highly likely to issue additional equity via ATM, contributing to even further valuation overextension.

Additionally, overwhelmingly negative Glassdoor reviews indicate significant internal problems including lack of faith in company direction, management leadership, and significant disillusionment with the company marketing themselves as an “AI company”. Interested investors are strongly encouraged to review. Additionally, a large group of engineers left the company in late 2019.

The Steelberg brothers are superficially successful serial entrepreneurs, with all of their acquisitions shuttered within ~2 years of purchase, and zero experience in successfully scaling a business including a Dec 2015 bankruptcy. The Steelberg brothers awarded themselves a combined $65m in total compensation since 2016 (compared with the ~$70m mkt cap pre-run-up). Additionally, on Apr 24th, the Steelbergs gifted substantial portions of their shares to family members and no longer retain beneficial ownership over the sales. In other words, the Steelbergs would be free to sell without reporting.

Risks: M&A, management promotionalism

Catalysts: Earnings-driven continued disappointing growth, insider selling

Appendix A: Selected Glassdoor Reviews

Most of the engineering team and other good people have left or will leave. No real AI tech or "operating system", just marketing jargon and smoke and mirrors. Sep 5th, 2019 Glassdoor

“The products are very buggy and hardly work ... If you want AI that works go work for Google or Amazon. They claim they make an operating system of AI, that is true except all of the actual AI is from 3rd party vendors they are just the OS. So when those vendors do not want to license their AI to them they are even more screwed.” Glassdoor

“Platform has no ROI, nothing works, its unsupportable. Any positive reviews you see were written by the phonies in HR (trust me).” Apr 17th 2020 Glassdoor

Former Software Engineer wrote “However the product isn't viable (being an aggregation of other vendors' AI products) and the lack of direction in the company shows.” Dec 6th, 2019 Indeed

A software developer candidate interviewing at Veritone pressed that they had believed they were interviewing for an “AI role at an AI company … I was told this company is more of a company that deals with APIs and the platform doesn’t do much AI work itself … I think this was the worst interview experience I’ve ever had. Badly organized, rude people, the company’s entire premise of being a leader in the AI space is nonsense” Feb 25th 2020 Glassdoor

They'll tell you that the " AI engine" revenue potential is always a "couple big deals away from really accelerating. " Beyond that, the bulk of the revenue for this supposed startup comes from a legacy media buying agency that they acquired in 2015. … Google execs have publicly claimed that their acquisition they most regret was dmarc [Steelberg founded dmarc] in 2006. There's a reason for this. Glassdoor

Appendix B: Veritone Segment Breakdown

The full-service advertising agency sells advertising verification services for radio and linear television ad placements as well as various services catering to podcasting.  This business is growing in the mid-low single digits as it looks to offset predominately and declining radio/television revenues with digital advertising. VERI acquired a podcasting advertising agency in 3Q18 for $9.1m at 2.5x sales.

The media content licensing business enables companies to quickly license out their content for advertising purposes. For example, a live to-be highlight clip of Lebron James can quickly be licensed by the content owner to an advertiser which would like to place an ad of their product with the highlight clip. This business has large exposure to sporting events and has been impacted by COVID. VERI acquired Wazee Digital, which formed the content licensing business as well as a large portion of the aiWARE SaaS business, for in 3Q18 for $19m at 0.7x sales.

The aiWARE SaaS business sells tag/store/search applications for advertisers (86% sales) as well as redaction and transcription software for government/compliance/legal (14% sales). This segment, which run-rates around $11m sales, is the VERI bull thesis. This business is growing mid-low teens, primarily driven by government/compliance/legal sales.

Catalyst

We believe VERI’s stock has 70% downside from current prices, driven by (1) continued disappointing growth and (2) ongoing capital raises to finance cash burn.