Syncrhonoss SNCR - looking back case study

Syncrhonoss SNCR - looking back case study.

We can learn from this:

This was my write-up on the company in December of 2015

"Who is Synchronoss?
SNCR was founded in 2000 and is headquartered in New Jersey. The two founders still own 12% of the stock, and one founder is still the CEO.

They have two primary divisions. The first is their mobile device activation service that they provide for Verizon, AT&T, and a host of other phone company providers. Their software makes connecting and syncing your new phone quick and easy instead of having to do it all manually. They get paid a small amount by the phone company for each activation. This part of the business is slow growing (5% in 2014), but a cash cow.

The new part of the business, which is rapidly growing, is offering cloud services through the phone companies to all the phone subscribers. They get a small annual fee from the carriers for each person who signs up for cloud services. This is very valuable to the carrier as a subscriber who has their stuff backed up in the cloud through that carrier is much less likely to switch carriers. The subscriber is stickier. And also more likely to go for more expensive data plans and add more devices. This part of the business is growing much faster (81% in 2014). According to an article on the Fool, they are currently adding between 400,000 and 500,000 new cloud users each week, up significantly from roughly 100,000 in early 2014. Their Gross Margin is about 60%.

And the Internet of Things. Believe it or not, they are also in AT&T’s Drive platform for connected cars, a Timex smart watch, and Time Warner’s new connected home system.

What is your history with them?
I’ve been a stockholder for roughly three quarters of a year now, finding out about it from a MF recommendation. They are my eighth largest out of 12 positions. I bought it originally at about $47, and it has since sunk to $36, so the stock price has gone downhill considerably with a lot of doubt about future prospects for growth.

What about risks?
While they deal with well over 100 carriers, Verizon and AT&T made up over 70% of their revenue in 2014. That’s why their new agreement extension with AT&T earlier this week was important, as was an extension earlier on with Verizon. Also there is competition as Apple tries to lock people into their cloud, and Google and others also provide cloud services. Also, the constant worry, “What if phone sales stall?”

Why haven’t I heard about this company?
That’s one of its advantages for an investor. It’s an innovator, providing high margin cloud services and growing rapidly and no one knows about it.

But how can they keep 60% gross margins and rising? Why don’t the carriers pressure them to cut margins?
Look, their phone activations cut problem rates from over 30% to under 2%. Their cloud services keep subscribers from cancelling and moving to another carrier. For a few dollars a year, are the carriers going to fuss?

How has SNCR stock been doing?
As I said above, not well. They’ve been as high as $52, they are now at $36, so they are 30% off their high. Their PE is down to 16.6

Wow, they are 30% off the high. And with a PE of under 17 they must be doing something wrong!
Well, that’s the odd part, they’re not. Their trailing earnings were up 29.3% at the end of Sept. At the end of June they were up 31.6%. At the end of March they were up 30.3%. They have a lot of consistency. Granted, Sept quarterly earnings were up only 26.1% over the year before, compared to June earnings which were up 36.6%, but March earnings were up just 25.6% and Dec was up 29.3%. It’s hard to see any negative trend there, and certainly anything so ominous as to warrant a PE under 17.

In the last quarter their cloud revenue was up 31% and was more than half of revenue. Their activation revenue was up 11%.

What’s new?
They’ve started an enterprise division which will offer secure mobility solutions to enterprise clients, and they recently announced a collaboration with Goldman Sachs to offer proprietary secure mobile solutions to enterprise customers.

They also started an Asian expansion with a deal with the Viet-Nam phone company.

To summarize, This isn’t a company that is going to take over the world, but it’s an interesting, relatively unknown, boring sounding, but surprisingly innovative little company that is quite profitable, moving into new areas, and consistently growing earnings and revenue, at a low PE."

That introduces you to the company.

Excerpt from Bert’s write-up in May 2016

"Summary: Synchronoss reported very strong results and raised guidance. It is quite reasonably valued relative to its forecast growth rate. It’s not well known or well followed, which potentially affords us an interesting opportunity.
Its personal cloud offering consists of backing up and retrieving photos, videos and other personal items for customers of some of the major telephone carriers.
Synchronoss decided a few years ago that in order to continue to serve its carrier customers, it needed to launch a product that it describes as a personal cloud. Indeed, some of their traditional solutions that encompass the maintenance of devices and provision of services are now called SaaS, although its business model is quite far from the way I think about SaaS.

Synchronoss is probably not a name on the lips of all that many readers or investors, although analysts like the stock at the moment and have a mean price target of $50. Compared to many other companies that I have written about, this one has a reasonable valuation, although there are some risks that go with that valuation. It is building a new set of enterprise solutions that could significantly accelerate growth. The company will almost certainly exceed its estimates this year, as the estimates don’t include any incremental revenue from the the release of the new iPhone. Overall, I believe the shares are attractively valued at current levels.

A new initiative - Management realizes is that it needs to put more legs under its stool. While the activation solutions aren’t doomed to extinction, they are not going to be a growth driver in the future.
The initiative, being developed in collaboration with Verizon and Goldman Sachs is going to really determine the success of its third leg strategy. Synchronoss recently created its Enterprise Mobility Unit (EMU), which is targeted at the financial services, life sciences and healthcare verticals. It also announced a relationship with PriceWaterhouseCoopers to identify enterprise pain points and help Synchronoss decide on products. Its new solutions are going to be in the areas of identity, access management and security."

Looked interesting. Here were the Sept 2016 quarter results:

"Sept quarter results
We are very proud of our team for delivering a strong quarter with strong momentum around cloud and enterprise heading into year-end and 2017. Cloud was very strong this quarter with both new and existing customers, as solid subscriber growth and expanded cloud initiatives in our core customer base set the stage for the next chapter of our growth.

• Total Revenue: $181 million up 20% from $151 million.
• Gross profit: $109 million, up 18.5%. It was 60% of revenue
• Op margin: 26% of revenue
• Net Income: $32.5 million up 20%. It was 18% of revenue
• Earnings: 68 cents up from 58 cents
• Operating cash flow: $(17.7) million down from $14.1 million. We expect strong cash flow to resume next quarter.

We are pleased with our ability to deliver strong top-line growth with a growing cloud and enterprise pipeline. We believe our ability to drive software growth, while investing in our enterprise and international initiatives, positions us well for the future.

• Cloud revenue: $106.4 million, up 40%, and is now up to 59% of total revenue
• Activation revenue: $74.6 million, down 1.0%, and was 41% of total revenues.
• Completed key cloud migrations at international customers such as Softbank, America Movil, and British Telecom to our Personal Cloud Platform.

• Enterprise Secure Mobility Platform (SMP) had numerous customer wins and competitive displacements during the quarter across the healthcare, legal, and financial verticals. We are progressing extremely well with the Goldman Sachs strategic partnership. We’ve successfully built a strong pipeline of customers and pilot programs across various verticals with the core focus on financials and healthcare. We’ve already had a number of successful conversions from our pipeline into signed deals, including a handful of replacements of existing competitive deployments. We are pleased at how quickly our sales force and strategic partnerships have translated into some early enterprise success,

• Our Verizon UID partnership is providing us with access to approximately one-third of the US consumer market and a host of large enterprise customers in this new market.
• We’re excited with our progress in Japan and believe we have a clear path towards $100 million or more in cloud bookings for 2017
• We continued our restructuring, cost cutting and integration efforts during the quarter. This continues to be part of a broader restructuring effort as we look to shed underperforming assets, cut costs, and position us for strong profitability and cash flow over the next few years, as we move towards higher growth areas of the mobile and enterprise landscape going forward."

I wrote: I thought last quarter that they had turned the corner, and I was correct. So what did they do? They self-destructed:

Dec 2016 - Synchronoss to Acquire Intralinks Holdings Accelerating Strategic Transformation
• Synchronoss to acquire Intralinks Holdings, for $821 million
• This will significantly expand the scale and scope of our transformation to attack the huge enterprise market opportunity
• Ron Hovsepian, CEO of Intralinks, is expected to become CEO of Synchronoss after closing
• Stephen Waldis, Founder and current CEO, will serve as Executive Chairman of the Board, driving strategy, product innovation and oversight.
• Synchronoss will divest a portion of its activation business to Sequential Technology for $146 million; strategic alternatives are being pursued for the remaining activation assets

In Intralinks’ 20-year history, over 4.1 million business users across the world have used its secure, cloud-based platform, and it counts 99% of Fortune 1000 companies among its customers. To date, it has supported over $31 trillion in high-stakes transactions, making it a leader in the enterprise content collaboration market.

Intralinks has established itself as a household name in the financial services world, with a keen focus on growing its presence into the secure content collaboration market. This acquisition is another major step in the transformation of Synchronoss to expand the scale and scope of the company’s enterprise initiatives in attacking this multi-billion dollar market opportunity. Ron brings significant leadership experience and a history of successfully integrating companies into a single portfolio. I intend to stay active in the company, driving growth opportunities and continued developments on new product innovation.

“Together with Synchronoss, we believe we can deploy enhanced enterprise and mobile solutions to our customers while opening up new enterprise distribution channels across the world.”

In conjunction with today’s announcement Synchronoss is also announcing an agreement to divest a portion of its activation business to Sequential Technology for a total purchase price of $146 million. As part of this transaction, Sequential Technology will purchase 70% of Synchronoss’ carrier activation business that is being divested, with Synchronoss retaining a 30% ownership piece which could be reduced during the course of 2017. Synchronoss is in the process of pursuing strategic alternatives for the remaining activation business assets.

Synchronoss expects to finance the acquisition with its existing cash, proceeds from the Sequential Technology transaction, and $900 million of new debt.

Given the expected closing in the March quarter, we expect the Intralinks transaction to have no impact to our Dec quarter results. Assuming a late first quarter 2017 close, we are giving initial 2017 revenue guidance of between $810 million and $820 million with pro forma EPS of between $2.45 and $2.60 for the combined entity. (remember that they are selling off a lot of their legacy activation business, which reduces revenue). We are targeting $40 million of combined synergies within the first year of closing the Intralinks deal.

Here was my take!!!

"A day ago this was a company that had turned the corner, and was on a sharp ascending path. Now they are acquiring a company half as big as they are (a huge acquisition) that is losing money and growing revenue slowly, and taking the CEO of this company as their new CEO. They’ve become an unknown quantity!

After a long wait, they had finally turned the corner. Their Their cash cow activation business had slowed down but was still raking in the dough. Their cloud business had become over 50%. Their new Enterprise business with Goldman and Verizon was finally bearing fruit. Earnings had taken off again after several quarters of flatlining. All they had to do was sit back and rake it in.

So what did they do?

  1. They sold their cash cow, which was guided to be $74 million for just the next quarter, and 37% of their total revenue for the quarter. That’s wrong! You keep your cash cow legacy business until it becomes a small enough part of your total that you don’t miss it.

  2. They are taking on new debt of $900 million which is roughly half their capitalization.

  3. They are acquiring a company that they clearly didn’t need (based on the “sit back and rake in what you have earned” scenario). This is a huge acquisition. This acquired company is almost half their size, is losing money, and has grown revenue VERY slowly. Why is SNCR doing this? You mean they couldn’t find a bolt-on acquisition that would make them happy?

  4. The CEO that has made them so successful is choosing this crucial moment, with everything in flux, to remove himself from the day to day running of the company.

  5. And who is replacing him? The CEO of the slow growing, money-losing huge acquisition. What a great choice.

This is no longer the company I was invested in. It’s barely recognizable. It’s an unknown quantity, with a huge debt load, less revenue, and a CEO who is also an unknown quantity. It may do fine, but it will do it without me."

Current comment: I sold out as soon as I learned about the acquisition. I got a price of about $38.00 in December 2016. A year later they were down to about $8.00, and they are now at $4.50. What a case study of a self-destructive decision by a company.