During the intraday trading session on July 12th Avid’s stock traded at pricing levels above $40 per share (it closed today’s session at $36.95). A pricing level of $41 a share or higher will equate to an enterprise value (market capitalization less net cash) of more than $2.0 billion.
So…wait for it…Avid Technology is approaching a $2 billion enterprise value. The ‘why’ is nothing short of a business case study.
Historical Background
Those with a long memory may recall the heady days of early 2005 when Avid’s enterprise value peaked just shy of $2.5 billion. Those days did not last long. In late March 2005 Avid announced its intention to acquire Pinnacle for $462 million.
For those given to nostalgia, the press release announcing the Pinnacle deal highlights the MediaStream broadcast playout server line and Deko on-air graphic systems. The merger rationale cited the usual M&A tropes about building end-to-end portfolios and entering lower-tier segments of the market.
“We see this acquisition as the next logical step in our long-term strategy. Just as our acquisition of M-Audio in 2004 brought us into the consumer audio business, by acquiring Pinnacle’s consumer video business, Avid will be able to tap into the next generation of video editors while they are still learning their craft. This creates a very large potential customer base for Avid’s future. At the same time, we believe that Pinnacle’s professional broadcast offerings will fit seamlessly with Avid’s business, extending our end-to-end broadcast solutions with servers and on-air graphics products. We think it would be hard to find a more complementary match for these two businesses than what this combination provides.”
The above quote from then Avid CEO and president David Krall is excerpted from the merger press release.
Due note the citing of the M&A rationale is intended as a criticism, though it is aimed more broadly at the zeitgeist of the time. Building shareholder value at big media technology suppliers was viewed as an exercise in getting still bigger, and the most expedient means of getting ever bigger was buying adjacent suppliers – the larger, the better.
As an aside, the stated long-term strategy would unwind with Avid divesting its consumer audio and video businesses for $17 million in July 2012.
After Avid’s first full quarter of combined results with Pinnacle (Q4 2005), its stock would trade down 11%. At the close of that session in January 2006, Avid has never again seen an enterprise valuation of $2 billion. We are now going on 15+ years.
By late 2007, Avid’s enterprise value would dip below $1 billion and would not return to those levels until this past February, over 13 years later. During Avid’s financial restatement (2012 – 2014) Avid would trade under a $200 million enterprise value. To add some context from the period 2005 – 2020 the NASDAQ 100 appreciated by 8-fold.
The observation is less that the Pinnacle acquisition did not work out for Avid, but rather it has taken almost two decades to return to the same enterprise valuation. Two decades focused on M&A events (consumer divestitures, Blue Order, Euphonix, Orad), financial restatements (2012 – 2014), and repeated management changes.
Approaching a $2 Billion Enterprise Value
This post is ultimately a hopeful message given how Avid has returned to a $2 billion enterprise value, and the ‘how’ of it should activate strategic planning for all media technology suppliers.
Consider the below plot of Avid’s enterprise value against its trailing twelve-month revenue figure. The time period begins after Avid’s restatement in late 2014 and continues until this past June.
You will note the lack of any aggregate revenue growth by Avid. In fact, Avid’s annual revenue is now smaller than at any point during the 21st century. Avid is 40% smaller than its post-Pinnacle revenue zenith. More recent, over the past six years Avid has generated a compound annual return of -6.2%.
The escalation in value – in the total, utter, and complete absence of revenue growth – is a referendum on several matters in the media technology sector. Most acutely, it is either a condemnation of the inefficiency of historical business models or a testament to the reception of new business models by the investor community – or some combination of both.
That reception from the investment community is highlighted by looking at a chart of Avid’s stock price over the past year.
Before putting a face on this value escalation, please take note of the above timeframe. Consider what Avid did not do in this timeframe – notable answers include acquisitions and trade exhibitions (more on the later below).
Putting a face on the value escalation, Bob Bakish, the President & Chief Executive Officer of ViacomCBS, has served on the Avid board of directors since 2009. Naturally, part of the compensation for board service is stock. During this July (as part of a scripted trading plan), Bakish sold 120,000 shares in Avid for a market value of $4.4 million. Had the trades occurred one year before, the market value received would have been less than $1 million.
Investors play this game for a living. The largest shareholder in Avid today is the investment firm Impactive Capital, who owns a bit more than 15% of the outstanding common stock. Impactive started building its position in Avid in the summer of 2019 and concluded its purchases in the summer of 2020. In October of 2019, Avid entered into a support agreement with Impactive and added the Managing Partner of Impactive, Christian Asmar, to the board of directors.
In the associated press release Asmar is quoted as follows: “I am honored to join Avid’s Board. I look forward to the opportunity to work with the Board and the management team to support the execution of the growth strategy and to realize the full potential of the company. As Avid continues its transition to a recurring revenue model, the company has an opportunity to deliver meaningful shareholder value.”
Statements about future opportunity for shareholder value are so common as to render them noise. But goodness was it true in this instance.
The average price Impactive paid to build its equity stake was a little less than $7 a share, yielding a total cost of around $47 million. At today’s closing price, Impactive’s position in Avid is valued at more than $250 million, a greater than 5x return in a two-year holding period.
Do not tell us there is no money for investors to make in the media technology sector.
Possible Explanations for Value Escalation
We have established revenue growth is not the cause of the recent escalation in Avid’s stock price. The better explanation is the quality of the revenue itself, owing to a much more attractive business model. Hinted at above, Avid has been engrossed in a multi-year transition away from a business model characterized by the highs and lows of product cycles and plagued by hideously expensive sales and marketing functions. The transition is toward a business model characterized by SaaS & subscription revenue and a much, much more efficient operating profile.
Avid is long way down the transition in 2021. 75% of Avid’s Q1 2021 revenue was recurring, either in the form of an enterprise agreement, subscription, or maintenance.
More than smoothing out revenue, the new approach does not appear to require regular acquisitions to refresh product lines, nor does it rely on large trade exhibition expenditures. Avid’s last meaningful acquisition was Orad (completed in June 2015), and last in-person trade event was NAMM in January 2020.
Evidence for the success of the business model transition is visible across familiar financial figures. However, the positive picture painted by recent financial performance is not commensurate with the surge in value (this is a critical point revisited below).
Gross margins have consistently improved over the last four years, growing by an approximately 1000 basis points from late 2017 levels. Avid’s management is guiding investors to expect further expansion of gross margins thru 2025.
Gross margin improvements primarily reflect a tilting of Avid’s product portfolio to software revenues. 47% of the trailing twelve months of revenue (as of Q1 2021) was software (compared to 38% for calendar 2018).
Further down the income statement operating margins are also showing the desired trend. With the lone exception of the first quarter of 2020 (an exception circumstance), each of the last 11 quarters have managed positive GAAP operating income.
More importantly, the plot of the past decade of operating margins illustrates the cyclicality of Avid’s results. The culprit was the prior business model of Avid was based on capital expenditures and would ebb and flow based on mercurial customer refresh cycles and the timing of new product releases. Cyclical success is difficult to manage, hard to communicate, and rarely rewarded by investors.
Supporting recent operating margin performance was the lack of large trade exhibitions and the cost associated with those events. For the full year 2020, marketing and selling expense declined $12.3 million for Avid.
In a June 7, 2021 interview with Hollywood Reporter Avid CEO Jeff Rosica stated Avid would not go to big shows for the remainder of 2021. The complete context of his responses was more kind to the future of tradeshows (included below).
“Generally I’ll say this, we support trade shows. I support those organizations fully, but I think the [marketing mix] post COVID [will change]. I think we’ve all learned that customers want more content. They want more engagement. Not everybody can fly to Vegas or Amsterdam to see a trade show or Anaheim for NAMM [National Association of Music Merchants]. We’ll support shows in the future, but I think we’re going to probably rebalance our mix a bit, of what we spend and where.”
The revelations of the past 18 months do not mean the end of trade events. Rather, trade events (in aggregate) need to become better investments through some combination of costing less or generating greater commercial returns. Any activity at a trade event not amplifying those goals is a distraction.
Further evidence jumps out of a review of Avid’s financial results.
Avid’s Q1 revenue was up $7.9 million against the year-over-year comparable of Q1 2020, which admittedly was impacted by the 2020 disruption. Gross profit for the quarter was up even more at $8.2 million because of the nature of its product composition tilting more toward software. Those results were achieved despite lowering marketing and selling expense by $4.5 million. The breakdown from Avid’s quarterly filing is included below.
If Avid can achieve its revenue and profitability goals without large, traditional expenditures than why incur the large traditional expenditures? Equivalently, are large, traditional sales expenditures a good investment?
Expanding the historical gaze further amplifies the point. The below charts 10 years of Avid’s quarterly expense for marketing and selling and the percentage of revenue spent on marketing and selling. Q1 2020 is omitted given the peculiarities of the quarter).
Avid’s aggregate spend on marketing and sales has halved in the past decade – halved as in down 50%. Meaning the dots connect as revenue down, sales & marketing spend down even more, and valuation way up. Is it reasonable to conclude – given the response of investors – Avid was inefficiently spending lots of sales and marketing dollars chasing revenue that investors did not particularly value? Does this same point attach to a significant percentage of the global media technology supplier community?
Avid currently trades at a revenue multiple to enterprise value north of 5x. For the entire past decade, the same measure averaged less than 1x.
As stated above, the totality of the current financial measures do not support the massive near-term rise in Avid’s stock price. Yes, the profitability measures are improved and trending in a positive direction. Yes, higher levels of recurring revenue are rewarded by investors. And yes, credible claims of SaaS business models steer investors to reference more lucrative valuation multiples. We would still expect greater factors to be at work to support a 4x rise in enterprise value in less than 12 months.
We would submit the higher power at work is the refocusing of investor attention to Avid’s future – a hopeful future. This is again a statement on the benefit of the business model transition. (Do not hesitate to disagree.)
Avid’s May 2021 investor day reviewed the management team’s Strategic Vision for 2025. The slide below has the notable excerpts.
“First, we see Avid being a predominately software, subscription, and SaaS company by 2025, if not sooner” began Rosica when reviewing the goals set by Avid’s management team. These qualify as lofty goals: (i) Revenue guidance of 10-11% CAGR thru 2025, (ii) 600 basis points of gross margin expansion, and (iii) 900 basis points of expansion of EBITDA.
Stock prices are based on the future, though the future is only believed by way of a reference to past and present performance. It would appear Avid has managed to clear some invisible milestone among investors to refocus them on the future opportunity.
Final Word
Reasonable parties can argue about the appropriateness of venerating SaaS revenue. David Ross (CEO Ross Video) makes some excellent points in a recent Linkedin post about how many customer situations are poor matches for SaaS pricing models.
A longer conversation is owed to implementation of new business models to the benefit of customers, suppliers, and also investors. We are looking forward to having that conversation (among others) at the 2021 Devoncroft Executive Summit on October 9, 2021, in the Las Vegas Convention Center.
More details to follow. We hope to see you there in person.
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