TheStreet Is Now Undervalued Following Recent Improvements To Fundamentals And Strategic Acquisition Of BoardEx
By SpearPointLLC :
400 Poydras, Suite 2100
New Orleans, LA 70130
November 03, 2014
Re:Our view on the acquisition of BoardEx by "TheStreet ( TST )"
Dear Common Shareholders of TheStreet, Inc.,
As many of you know, over the past year (together with its affiliates, "Spear Point" or "we," "us" or "our") has expressed reservations about the strategy of TheStreet Inc. (the "Company" or "TST") which trades under the ticker symbol TST. These included the idea that small, tuck-in acquisitions simply won't be enough to have a meaningful impact on long-term growth and, therefore, amounted to nothing more than trading cash for revenue. We were also concerned about over-reliance on Jim Cramer and the retail side of the Company's business. And finally, we were critical of the Company's Board of Directors (the "Board") and management for what we viewed as putting the interest of the Company's preferred shareholder, Technology Crossover Ventures ("TCV"), ahead of common shareholders. However, the Company's announcement it has acquired BoardEx for a net cash outlay of $21 million, as well as other actions taken by the Board, has reignited our positive outlook for TST. 1
A brief history of our relationship with TheStreet
We initially began buying shares of TST in February 2013 and continued to build a reasonably large position in the Company. Our belief at that time was the Company was deeply undervalued as it was trading at or below its net cash position, despite valuable assets, and the relatively new CEO, Elisabeth DeMarse, had a track record of turn-arounds and profitable exits for shareholders.
We attended TST's shareholder meeting that year and expressed our belief that the Company should seek and execute on larger acquisitions more akin to The Deal and focus on the institutional business rather than the retail sector. We also expressed our belief that the Board had to do more for common shareholders.
As the year wore on, we became concerned with the lack of organic growth being generated by supposedly synergistic acquisitions of the prior year as well as an over-reliance on the expensive Jim Cramer. We also came to believe the Company was an attractive acquisition target and proposed a take-private transaction that, if consummated, would have resulted in the Company's common shareholders receiving $2.80/share in cash for their common shares and the preferred shareholder receiving at least $15 million in cash for its preferred shares. 2 This proposal was rejected by the Company, and the Board declined to engage in discussions concerning it. This refusal only raised our level of frustration and heightened our sense that the Company was being run with a misplaced focus on the interests of the preferred shareholder at the expense of common shareholders.
A series of exchanges followed between ourselves and the Company, culminating in a letter dated December 18, 2013 entitled "The Time for Excuses Has Passed." 3 In that letter, we demanded action from the Board and management to return value to common shareholders and noted we were evaluating steps, including nominating new members for election to the Board, if things didn't change.
Lo and behold, things changed. On January 6, 2014, the Company announced an annual cash dividend to be paid to common shareholders of $0.10/share. The stock proceeded to march from $2.20/share (its closing price before the announcement) to close at a high of $2.94/share on February 27, 2014.
As the stock price exceeded our proposed $2.80/share acquisition price, and lacking confidence in the Company's ability to achieve organic growth, we began to sell most of our position. However, despite our misgivings about the overall strategy, we decided to retain approximately 200,000 shares after the market price retreated from its February highs. We did so because we liked the dividend yield and remained hopeful that management could live up to its promise. The Company's results in the first two quarters and the announcement of the Company's acquisition of BoardEx, are encouraging signs that retaining a position in the Company will prove to be beneficial.
From Bear to Bull: How the BoardEx deal affects the strategic position of the Company
Turning to the acquisition, we believe this deal may be significant due to many factors, including:
Expands the Institutional side of the business - One of our main concerns has been the Company's over-reliance on Jim Cramer and the retail side of its business. We remain of the opinion that the Company should sell the retail business, perhaps to CNBC and/or Mr. Cramer himself, and focus on the institutional business. The BoardEx acquisition is a move in the right direction and partially ameliorates these concerns.
Currently, revenues from the Company's subscription newsletters account for approximately 50% of total revenues, or about $28.77 million in the trailing 12-month period. Of this amount, Mr. Cramer accounted for 60% of subscription newsletters, or a total of $17.26 million. This equates to 30% of trailing 12-month total revenue. Upon completion of the BoardEx acquisition, Mr. Cramer's percentage of total revenue would decline to 25.6%. 5 We view a lower level of dependence on Mr. Cramer as a positive event for the long-term value creation of the Company. The following table details our estimates of revenue by business line at the Company: 6
- Greater revenue visibility - As CEO DeMarse noted in her comments on this deal, BoardEx has extremely high customer retention rates (95%). 6 This should afford the Company greater revenue visibility going forward.
- Lowers the Company's cash position below the Preferred Shareholder's liquidation preference - Another concern of ours was that the Board and CEO DeMarse were beholden to TCV and, therefore, would avoid transactions that would reduce the Company's cash position below the liquidation preference on TCV's preferred stock. Upon completion, the BoardEx transaction eliminates this issue (see below for further discussion about the preferred stock).
- Board resignation presents an opportunity to make positive changes - On September 19, 2014, the Company announced the abrupt resignation of Vivek Shah from the Board of Directors. We will not speculate on why Mr. Shah would leave the Board just months after being re-elected to that position. Regardless of the reasons for his departure, we are optimistic that the Board will eventually fill the seat with a truly independent nominee who will aggressively focus on value creation. We would be happy to suggest a number of potential nominees that we think would fit such a profile.
Furthermore, we think the Company somewhat buried the lead in its BoardEx announcement. Although the acquisition was important, perhaps even more so was the fact the Company raised its revenue guidance for 2014 to $58 to $59 million from $57 to $58 million due to organic growth. 7 Although a relatively small positive adjustment, this is significant on a number of fronts. Organic growth is the key to real value creation and has been elusive for too long. It is also an indication that real synergies may be developing across products and that the dual monetization opportunities touted by the Company may be finally kicking into gear.
On November 15, 2007, Technology Crossover Ventures invested $55 million into the Company and received shares of the Company's Series B Preferred Stock. As part of this investment, TCV agreed to restrictions on certain actions, most notably a limitation on acquiring more than 35% of the Company's common stock and a prohibition from engaging in efforts to effect changes at, or a change of control of, the Company (including soliciting proxies, participating in shareholder groups, publicly proposing a merger, and working to change the directors or management). As of November 15, 2014, these restrictions expire (although even after November 15, TCV still must refrain from shorting the stock). 8
Unfortunately, there is no corollary benefit to the Company. The lapse of TCV's restrictions will not eliminate the protective provisions or other preferential terms of the Series B Preferred Stock itself. The full $55 million liquidation preference remains in place. The Series B Stock is convertible into common stock, at a conversion price of $14.26 per common share. However, the Company cannot compel TCV to convert its Series B Preferred Stock into common (which would eliminate the liquidation preference and other preferential terms), unless the market price of the Company's common stock rises to $28.52/share, which, it is safe to say, is an unlikely prospect.
Further, the Series B Preferred Stock holders continue to have the right to appoint a Board member, although TCV has not exercised this right for some time. The Series B Preferred Stock continues to vote with the common stock on an as converted basis and the Series B Preferred Stock must approve any changes to the Company's equity terms which would negatively impact the Series B Preferred Stock. This includes issuing any preferred stock or other securities with terms on parity with, or superior to, the Series B Preferred Stock, thereby eliminating the Company's ability to "cram down" the Series B Preferred Stock. Also, the Company may not repurchase or redeem any common stock, or increase the annual dividend on the common stock to more than $0.10 per share, unless after such repurchase of stock or the payment of such dividend the Company would have unrestricted cash (net of all debt) equal to two times the Series B liquidation preference (i.e., $110 million).
In addition, since the Series B liquidation preference is payable to the holders of the Series B Preferred Stock upon any "liquidation event" - including a merger or other transaction resulting in a change of control of the Company - TCV has, in effect, a veto over any sale of the Company which would result in it receiving less than $55 million. 9
On the bright side, TCV lacks any right to force the Company to redeem the Series B Preferred Stock and it does not receive a separate dividend (it participates with the common stock in any dividends on an as converted basis). Therefore, the Company can simply leave the Preferred Stock in place and continue to execute its growth strategy. With the BoardEx acquisition, management has demonstrated its commitment to pursuing its growth strategy rather than elevating the possible concerns of the preferred shareholder ahead of the long term interest of the Company. Finally, upon completion of the BoardEx acquisition, the Company's cash position will be substantially below the Series B liquidation preference, which may increase the possibility that TCV will accept an amount less than $55 million in a negotiated acquisition of the Company, enhancing the chances for such an event.
In speculating on what TCV may do after the investment limitations lapse, several scenarios come to mind, including the following:
- Do nothing - TCV may be content to take a long-term view and hope that the Company's stock finds a way to increase from today's level of $2.20/share to some level closer to their conversion price of $14.26/share. However, this investment has been on TCV's books for a long time and it has not performed well. We note this investment was made under the TCV VI fund and earlier this year TCV announced a new $2.23 billion growth equity fund (TCV VIII). 10 Therefore, we assume TCV will be under growing pressure to find a way to gain liquidity on this investment.
- Move to gain control of the Board - TCV could attempt to gain control (or near control) of the Board in order to direct the Company's strategy. Currently the Board has two open seats: one recently vacated by Vivek Shah and the empty seat that TCV has the right to fill. TCV could appoint a director to its seat, and nominate candidates for the other empty seat and the two seats up for election next year, which are currently held by Mark Walsh and Jim Cramer. Should the Company decline to nominate TCV's candidates, TCV could run its own Board slate and engage in a proxy contest. While we are not aware of TCV engaging in such tactics (and it is possible its governing documents prohibit them), this avenue will become available to them after November 15th.
- Move to acquire control of the Company - TCV also will be free to acquire unlimited shares in the market, attempt to negotiate an acquisition, or launch an unsolicited tender offer for the Company (again, assuming that TCV's own governing documents do not prohibit "hostile" or similar transactions).
- Sell its stake to an acquisition-minded investor - Whether or not TCV has internal restrictions on certain "hostile" actions, now that the restrictive terms on the Series B Preferred Stock are about to lapse, TCV should have greater ability to sell its preferred shares to another investor who intends to use the stake as a foundation to launch a take-over bid for the Company.
Of course, these are entirely speculative musings and we have no evidence or indications of what TCV may or may not be planning.
However, it is possible that once its restrictions expire, TCV will act more aggressively with respect to its investment, and that such efforts may be favorably received by the market, potentially increasing the market price for the Company's common stock, or result in a take-over of the Company, with common shareholders receiving a premium to today's market price. But, it is not possible at this stage to gauge the likelihood of TCV pursuing any such actions, the ultimate outcome of any actions it may pursue, or the impact on common shareholders.
One of the challenges in determining a meaningful value for TheStreet is the lack of a significant number of sensible, pure play comparable companies ("comps"). We believe the following table represents the best comps available:
If you applied the average multiples for this group of comps, TheStreet theoretically should be valued between $185.9 to $195.6 million, or $5.40 to $5.68 per share. 11
We also find the following table to be of interest. TheStreet compares very favorably to its peers on a revenue and EBITDA growth basis (although the Company still has yet to reach profitability).
In particular, we believe Value Line is the closest pure comparable company due to line of business and similar size. We note that although Value Line has significantly less revenue than TheStreet, it trades at a much higher value. We believe this is due to several factors:
- Pure play - Although Value Line has its own share of challenges, it doesn't suffer from the distraction of a retail segment. In our experience, Wall Street rewards pure plays with higher valuations than companies with multiple, disparate segments, especially small and micro-cap companies.
- Less personnel risk - Even after our estimates of the impact of the BoardEx acquisition, the Company's revenues associated with Jim Cramer will remain high. Jim Cramer is a talented entertainer and the Company recently signed a multi-year deal to retain him. However, many people view Mr. Cramer as unstable and there is always the risk that he becomes unable or unwilling to perform his duties for the Company.
- Profitability - Ultimately, the Company must generate profits. We are very encouraged by the current fundamental trends, although we remain vexed that the Company cannot generate growth and significant profits in its current form.
In a letter to the Board of Directors of the Company dated October 9, 2013, 12 we presented the following value grid and notes:
"Common sense dictates the Company will create the most value by growing organically and reaching sustainable profitability. The faster or more sustainable the rate of growth and/or profitability, the higher the value of the Company. The Company has not been profitable since 2008, and while it has not made profitability a specific goal for this year, CFO John Ferrara did say management is "kind of focusing on breakeven EBITDA" this year. While breakeven EBITDA is not the same as profitability, ending the cash drain is clearly better than continued negative cash flows and losses. We believe any trend in this direction would be welcome by all common stock investors. The Company has also not shown the ability to produce organic growth, and we note annual revenue has declined from a high of $70.8 million to a seven year low of $50.7 million in 2012. Management claims to have halted the disturbing trend of net subscriber attrition and posted Total Net Revenue growth in its most recent 10-Q, giving the appearance that it has stemmed the disturbing, value-crushing decline in revenue.
Based on the current state of the Company, our value-grid implies a valuation per share between $2.43 and $3.19…."
A little over one year later, the Company has become cash flow positive and the revenue slide has been reversed.
In the Company's earnings call covering Q4 2013, CEO DeMarse noted both top line and bottom line improvements:
"We are pleased to announce annual revenue of $54.5 million, which was above the high-end of our guidance of $53 million to $54 million…
The Company recorded positive net income of $213,000 for the fourth quarter, or $0.01 a share, compared to a net loss of $2.2 million the previous year. This was the Company's first positive quarterly net income in 4.5 years. Also, we achieved adjusted EBITDA of $1.6 million for the quarter. Gross profit grew 9 percentage points sequentially, and so did our adjusted EBITDA, demonstrating the operating leverage."
In the Company's earnings call covering Q1 2014, she noted:
"the Company recorded revenue of $14.4 million for Q1, representing a very strong year-over-year growth of 14%....
The Company recorded a net loss of $1.1 million for the first quarter, compared to a net loss of $1.7 million the previous year. Adjusted EBITDA was breakeven for the quarter compared to a small loss last year.
The Company also generated $2.4 million in operating cash flows for the first quarter, compared to negative operating cash flows of $41,000 in the prior year. We ended the quarter with $60.9 million in cash and investments, an increase of $1.1 million from the fourth quarter."
And finally, in the Company's Q2 2014 earnings call:
Excellent execution across our subscription segment resulted in year-over-year revenue growth of 7.4% setting a new quarterly high at $11.6 million. Our media segment grew 17.5% year-over-year, our pacing and advertising shows as promised we have turned the corner and are growing media revenue. The Company reported net loss of $641,000 for the second quarter compared to a net loss of $1.1 million in the previous year period.Adjusted EBITDA was $502,000 for the quarter compared to $297,000 last year. The Company also generated operating cash flows of $2 million for the first half of the year compared to operating cash flows of $1.2 million in the prior year.
Therefore, updating and revisiting our subjective value grid, the Company's implied value should be between $3.49 to $4.33/share as it is experiencing modest organic growth but has yet to reach profitability. 13
TheStreet appears to have turned the corner on operations by increasing both organic revenue growth and operating cash flow. Without the effects of the BoardEx acquisition, the Company has raised its revenue projections for the year and posted a record quarter for subscription revenue in Q2 of 2014. The Company expects the BoardEx acquisition to add over 17% to the top line, assuming renewal rates remain high and after deferred revenue adjustments. In addition, management and the Board of Directors have let it be known that they will not sacrifice their growth strategy out of a misplaced concern for the interests of the preferred shareholder. Finally, as TCV's hand is freed, there is an increased possibility for a change of control event, with the possibility for a take-over premium realized by common stockholders.
Based on these factors, in our opinion, it is hard to justify the current market value of the Company, and we have recently added to our position. We applaud management and the Board for their efforts over the last ten months and hope the results of their efforts will begin to be recognized by the market. Of course, while our intent as of the date of this letter is to hold our position and perhaps to increase it further, we reserve the right to sell our shares at any time and without prior notice to the market, whether due to a change in our valuation estimates or if our investment objectives compel us to reallocate our holdings. However, having been a vocal critic of the Company in the past, we wanted to share our present thoughts with our fellow shareholders.
Spear Point Capital Management, LLC
Notice and Disclaimer: As of the publication date of this letter, Spear Point has a long position in and may own options on the stock of the Company and stands to realize gains in the event that the price of the stock increases. On or after the date hereof, Spear Point may transact in the securities of the Company. All content in this letter represent the opinions of Spear Point. Spear Point has obtained all information herein from sources it believes to be accurate and reliable. However, such information is presented "as is", without warranty of any kind - whether express or implied. Spear Point makes no representation, express or implied, as to the accuracy, timeliness, or completeness of any such information or with regard to the results obtained from its use. All expressions of opinion are subject to change without notice, and Spear Point does not undertake to update or supplement this letter or any information contained herein. This document is for informational purposes only and it is not intended as an official confirmation of any transaction. All market prices, data and other information are not warranted as to completeness or accuracy and are subject to change without notice. The information included in this document is based upon selected public market data and reflects Spear Point's views as of this date, all of which are accordingly subject to change. Spear Point's opinions and estimates constitute a judgment and should be regarded as indicative, preliminary and for illustrative purposes only. Any investment involves substantial risks, including, but not limited to, pricing volatility, inadequate liquidity, and the potential complete loss of principal. This letter's estimated fundamental value only represents an estimate of the potential fundamental valuation of a specific security, and is not expressed as, or implied as, assessments of the quality of a security, a summary of past performance, or an actionable investment strategy for an investor. This document does not in any way constitute an offer or solicitation of an offer to buy or sell any investment, security, or commodity discussed herein or of any of the affiliates of Spear Point. Also, this document does not in any way constitute an offer or solicitation of an offer to buy or sell any security in any jurisdiction in which such an offer would be unlawful under the securities laws of such jurisdiction. To the best of Spear Point's abilities and beliefs, all information contained herein is accurate and reliable. Spear Point reserve the rights for their affiliates, members, officers, and employees to hold cash, long, short or derivative positions in any company discussed in this document at any time. As of the original publication date of this document, investors should assume that Spear Point have positions in financial derivatives that reference this security and stand to potentially realize gains in the event that the market valuation of the company's common equity is higher than prior to the original publication date. These affiliates, members, officers, and individuals shall have no obligation to inform any investor about their historical, current, and future trading activities. In addition, Spear Point may benefit from any change in the valuation of any other companies, securities, or commodities discussed in this document. Individuals who prepared this letter are compensated based upon (among other factors) the overall profitability of Spear Point's operations and their affiliates. This could represent a potential conflict of interest in the statements and opinions in Spear Point's documents. The information contained in this document may include, or incorporate by reference, forward-looking statements, which would include any statements that are not statements of historical fact. Any or all of Spear Point's forward-looking assumptions, expectations, projections, intentions or beliefs about future events may turn out to be wrong. These forward-looking statements can be affected by inaccurate assumptions or by known or unknown risks, uncertainties and other factors, most of which are beyond Spear Point's control. Investors should conduct independent due diligence, with assistance from professional financial, legal and tax experts, on all securities, companies, and commodities discussed in this document and develop a stand-alone judgment of the relevant markets prior to making any investment decision.
1 TheStreet 8-K filing dated October 31, 2014: Link
2 See our Letter to the Board of Directors dated August 20, 2013; Link
3 Letter to Shareholders, Management and Members of the Board of Directors dated December 17, 2013; Link
4 Assumes completion of BoardEx acquisition and that revenue for both BoardEx and the Company's existing business remain steady year-to-year.
5 Source: Company filings, earnings call transcripts, Company's October 7, 2014 conference call, conversations with CFO John Ferrara and our estimates.
6 Company's conference call October 7, 2014.
8 See section 4.2 and 4.3 of the Securities Purchase Agreement, Exhibit 10.1 to the Company's 8-K filed November 20, 2007.
9 Series B Preferred Stock terms are set forth in the Certificate of Designation of Series B Preferred Stock, Exhibit 3.1 to the Company's 8-K filed November 20, 2007.
11 Trailing 12 month revenue of $57.54 million multiplied times the average Mkt Cap/Revenue multiple of 3.40 and the average Ent Value/Revenue multiple of 3.23. Per share values based on 34.4 million shares outstanding. Note that in determining the Company's enterprise value, we took the current market cap, added a value for the preferred shares and subtracted a cash/marketable securities number. For these purposes, we assume a value of $32.5 million for the preferred shares (representing a discount of approximately 20% from the Company's $40.4 million valuation to reflect the impact from the BoardEx deal), and a cash/marketable securities number of $35.33 million - (amounts as of June 30 after taking into account the $21 million net cash outlay for the purchase of BoardEx).
12 Letter to the Board of Directors dated October 9, 2013; Link
13 Admittedly, this is a simplified analysis based on a common range of revenue multiples and assigning relative weight to the growth and profitability factors based on our experience. It does not attempt to consider all factors that may be useful to consider when valuing a company. However, we think it is helpful in analyzing the Company to focus attention on these factors and how valuation may be affected by relative changes in them.
Disclosure: The author is long TST. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.
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