The market has been impressive in the speed, scope and magnitude of the market crash. The world has had an unprecedented response to COVID-19 which will undoubtedly have a major impact economically as well as on the social fabric of our lives. You will find all sorts of opinions to the, “world is ending” and, “this will have a short and limited impact.” Major questions remain, will the US go the way of Italy, Iran and Wuhan where the virus overloaded health care systems and had a greater than 3% mortality rate or will the social distancing/travel restriction policies be enough that the US follows the rest of China, Hong Kong, Japan, South Korea with good mitigation, slow virus spread and a health care system that can keep up. Mortality rates in those countries have been closer to 0.7%. No matter the answer, We are at a time of much fear and uncertainty. I am a physician and I worry that the US has acted too late. Time will tell. There is much uncertainty, how long the outbreak will last and how long and deep the economic outbreak will be. We are in a very different investing environment than a short 2 months ago and everything can change again in the course of 2 or 3 weeks. Italy went from a few cases to 60 million people being quarantined in 3 weeks.
Here is my thinking and what I have been doing. Near the beginning of the outbreak I reduced my positions that were burning cash. These included ESTC, MDB and SMAR. I was lucky that I was able to do that near many of their highs (ESTC I just sold the rest of, so not all good). I had also sold ZS because of their poor business results and Coupa because business spend is going to be ugly for a while. Those moves increased my cash position to a bit under 30% when my portfolio was much higher. Now the cash has grown closer to 40%, because the rest of my portfolio has shrunk! I’ve been sitting on that cash except for some minor almost net neutral moves. Below is my watch list.
My thinking that now is the time for strongly cash flow positive businesses that have plenty of cash doing mission critical things. I’ve identified TEAM, PAYC, OKTA, AYX, DDOG.
TEAM - Attlassian has a large range of tools that allow for mostly software product management, tracking and support as well as collaboration tools, coding tools and some security tools. Basically close to a one stop shop for software development firms. Remote work doesn’t hurt TEAM and might actually benefit them as companies have to be more deliberate about tracking projects. Revenue growth has been a steady 36-38% despite moving to a mostly SAAS revenue stream. Operating Income has been a pretty incredible 17-31% and last quarter FCF was 49%!! This will fluctuate but it is always pretty good. Rule of 40 is 86%, puts it right up there with ZM but at a much cheaper price. They have almost 2 billion of cash in the bank with 870ish million of senior notes and 672 derivative liabilities. This is a company that will be able to acquire other companies and talent through whatever we go through. Obviously others think similarly as I do as TEAM has only fallen a little over 20%. Its ev/s is around 20 which is the lowest I have seen it since tracking the company.
PAYC - Paycom is a SAAS based HR and Payroll company. They have been one of my favorites because of their strong focus on making their customers successful. Hard to switch out especially as by all accounts their customers love them. They don’t like to oversell, they want customers to only buy what they need and then grow with their customers. Revenue growth has been in the 28-30% range but they have been steadily increasing their EBITDA (i’ll use that since this is what they report). THeir EBITDA margin is an incredible 43%. 133 million of cash on hand and 32 million in debt. They will have no problem servicing their debt. EV/S is down to 17.5. This used to be lower years ago, but PAYC wasn’t a cash generating machine years ago.
OKTA - sits at the heart of a company’s identity management, single sign on, and zero trust security plan. Rev growth has been around 48% and pretty stable, Consistently improving operational leverage. Last quarter 21.5% FCF margin, expect this to bounce around but overall is going in a positive direction. 1.4 billion cash, 937 of debt at very low rates. EV/S is down to 21.5. They dropped to 16 ev/s back when their growth was slowing and there was some question about their operational leverage. 21.5 is the lowest we have seen for quite a while.
AYX - has been discussed plenty here. EV/S is down to 14. Lowest I have ever seen it was at 12 way back when I first bought it but it is a much much stronger company now. 9.6% FCF margin, 974 million cash, 697 million convertible bond at something like 0.5% interest rate.
DDOG - Single pane, cloud based analytics and monitoring. Rev growth has been above 80%, very efficient early stage business that has a lot of room to grow and expand their product portfolio. FCF margin about 10% and improving. 777 million of cash and no debt . EV/S is down to 25 which is the lowest I’ve seen. I think they had a flash crash to a similar EV/s but i didn’t calculate it at the time.
I don’t doubt our companies will be impacted, especially depending on how deep this thing goes, but those are my picks for companies that have the right product, right financials and right market positioning. I don’t think this is the time to go all in, we have many weeks ahead of us of the COVID-19 getting worse. The economic impacts are just starting. I am however begining to invest a small portion of my cash. Companies that come through this are going to be in an amazing position to pick up business and talent. They will be lean mean business machines. I think the above companies will be part of that group.
Finally, stay away from Margin, be careful of options, don’t invest the cash you need to live . Don’t put yourself in a position to go to zero. This too shall pass. Maybe not today, tomorrow or six months from now, but it will.