Long investment thesis for Vocus (VOCS).
A change in focus for Vocus (VOCS) penalized its shares big time earlier this year. But management will likely be proven correct to have established Vocus in a faster-growing niche while it still has time to milk the cash cow that is its legacy business.
Vocus provides companies with the tools they require to both collect information and formulate marketing plans in the digital world. The firm’s cloud software is used for social media marketing, search marketing, email marketing, and publicity. Its wares help companies attract, engage, and retain customers. It also helps customers increase their online visibility and organic search engine rankings, get followers on Facebook and Twitter, and generate buzz and visibility for their businesses. PR focused software gives firms the ability to monitor news and distribute press releases.
Vocus has been a cloud-stock darling at various times during its six plus years as a public company. From 2003 to 2008, the firm clocked revenue growth of between 31% and 44% per year—albeit with little in the way of GAAP earnings to speak of. The financial crisis eventually hit Vocus as well, however. In 2009 sales growth was a mere 9% before recovering to 14% in 2010 and 19% last year.
Vocus’ bread-and-butter leading into 2012 has been sales to larger firms. But management made a conscious move to attack the faster growing small and medium-sized business market with its acquisition of a firm called iContact at the end of February. The announcement of the move came the same day as Q4 earnings on February 28th, and it was met with a swift running for the exits by investors. VOCS gapped down by a stunning 40% on the day.
“The market obviously didn’t like the acquisition of iContact at the time,” says Tom Roderick at Stifel Nicolaus, “but it represents a pivot for Vocus towards the faster growing small company market that should also be much more profitable.”
The pivot was so stark that Jeffrey Houston at Barrington Research has come to “view Vocus as two companies in one. The first business is its traditional one that is a fast solution for large companies. This business remains a cash cow. The second business I actually like a lot better, and it’s what the iContact acquisition was made for. Vocus now has a digital marketing suite for small and mid-sized businesses—and that’s a faster-growing segment.”
Insiders reverse sentiment
At InsiderInsights we use the Form 4 (insider trading) data filed at the U.S. Securities Exchange Commission as our first screen to determine where we focus our subsequent fundamental analysis. And even though we only bought into VOCS in early August, the stock actually met our insider criteria back in May. The significant purchases by Vocus execs of their own shares came after Q1 financials relayed that the firm may not have made such a mistake after all with its iContact purchase even though its cash balance fell from $108 million to $26 million as a result of the deal.
Four execs purchased over $2.5 million worth of VOCS last May for between $14.97 and $16.24 per share. Three of the four buyers increased their stakes significantly with their latest buys, and all of the insiders expressing bullishness in May were last seen smartly selling their shares at higher levels—some less than a year ago. That reversal of opinion by active insiders added weight to the significance in our insider scoring methodology.
Even so, we did not act on this signal right away. We had come to know Vocus as one of those chronic names registering bearish insider sentiment during its heady trading days. Given the far too high multiple we viewed VOCS as having while it was still in high demand, it seemed to us that the stock would inevitably be unable to meet the high expectations momentum investors were pricing it for. Even so, figuring out just when the momentum in such a high flyer is going to end has always been the problem with shorting stocks with solid technical uptrends. We were satisfied to just use the heavy insider selling into strength as a signal for us to avoid the name.
As we all know now, the momentum-busting event for VOCS came last February. Even so, we’re used to seeing insiders continuing to sell such busted momentum plays when they finally do break. As an example, you can see significant selling in MicroStrategy (MSTR), ValueClick (VCLK), and Qlik Tech (QLIK)—even though those past darlings are well off of their yearly highs. So to suddenly have VOCS flash a strong bullish insider signal back in May was something of an anomaly.
Milk the old, grow the new
Hindsight shows that we should have acted on insiders’ reversal of sentiment at Vocus right away. But with the company’s pivot towards a faster growing market only two quarters past, we think the recovery of VOCS from its February sell off still has legs. A couple of insider sales filed after we entered VOCS in August was certainly unwelcome, but does not affect our fundamental conclusion.
Assisted by the purchased iContact revenues, Vocus’ top line growth is expected to exceed 50% this year, though settle down to a more sustainable level of 20% the year after. And while Non-GAAP earnings are expected to nearly halve this year, to $0.41, due to acquisition-related expenses, a hefty 50% jump in the bottom line is expected in 2013.
Expectations of sustainable 20% revenue growth doesn’t rank Vocus in the top tier of cloud stocks, but it should be enough growth to allow VOCS to trade back up to around $25 in the coming year. Bookings, which were up a decent 17% last quarter, will remain an important metric to monitor in coming periods. So will the retention of Vocus’ larger customers that make its older business such a cash cow. A break in either of these metrics could break our bullish thesis.
With Vocus’ change of focus seemingly on track, however, we’re long VOCS going into the fall earnings season.