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MicroCap.com / March 2, 2016
Frankly Inc. (TSX:V TLK 58 cents)
www.franklyinc.com
January 28th I discussed TLK at 53 cents as we learned they would be working with tech giants Accenture, Akamai,
Google, Nielsen, and Yahoo (to develop new technology applications for the media industry).
Two weeks later that news helped them land an interview with Forbes in New York – who rarely write up anyone on
the TSX Venture Exchange. There is valuable insight in that interview with Frankly’s CEO and it solidifies my belief
that we may be sitting on a “gift” when the stock is trading in the 0.50’s and 0.60’s.
However, before addressing why, I want to touch on the February sell-off in Twitter and LinkedIn and why it is a
positive (long overdue) event for high quality small techs like Frankly.
TECH BLOOD ON WALL STREET
For several years the big tech stocks have pushed irrational valuations but in early February a LOT of blood was
spilled on Wall Street (see charts below). Believe it or not, this is good news for microcap tech speculators looking
for small companies with exceptional capital gain potential.
It has been hard to benchmark this industry for small techs because the big public companies have commanded
incredibly high valuations (although Facebook with 1.5 Billion users I fully understand). On the “private equity”
side of technology, every private start-up thinks they are the next acquisition target.
They have convinced themselves (and their investors) that they can hold out indefinitely for a big takeover AND
that venture capitalists will simply keep the spigot open and continue funding money losing APPS and software
development. They could be in for a rude awakening in 2016.
PUB-CO LIQUIDITY & TRANSPARENCY vs. THE PRIVATE EQUITY TRAP
Thanks to Twitter and LinkedIn, private tech companies (funded by venture capital) could be in for a dose of
“valuation reality” as investors will start giving value to revenue, (realistic) growth potential, and earnings.
Thousands of private start-ups will need to compete with a much smaller number of publicly traded tech
companies who offer their investors both liquidity and transparency.
After reporting Q1 revenue guidance of
$820 million, LinkedIn lost $11 Billion in
market cap to $14 Billion.
In the past, liquidity and transparency
were two huge advantages to being a
public company versus a private
company. But the past several years of
private tech buyouts has made investors
in the tech industry forget just how
advantageous it is to have a small “public”
company versus a private company (who
typically burn through their cash before
they are ever bought out - or even
generating revenue).
2016 could be a painful year
for many private tech
companies as there will be
hundreds of start-ups
competing for very limited
private equity dollars.
And many who invested for
the past several years at very
high valuations, will find the
tech company they invested
in has (1) no realistic exit
strategy; (2) has burned
through all its cash; and (3)
the reality of an impending takeover is nothing more than a 2015 pipe dream.
The cream will rise to the top and the rest will rapidly lose market share (if they had any to begin with). Inevitably,
certain aspects of the “private” tech industry could begin to look like the ghost cities of China.
FAIR VALUE FOR FRANKLY (?)
The correction with Twitter in particular helped bring internet stock valuations back to something in the range of
“reasonable”. Blue Sky valuations associated with unattainable (and unrealistic) user growth are now off the table
and the focus is turning to more normal metrics like revenue growth and earnings. Active user growth for
internet companies is still very important, but investors are now beginning to realize these companies can’t keep
bleeding red ink indefinitely.
Twitter now boasts a market cap in the range of $11 Billion ($32 Billion in 2013) and has about $3 Billion in current
and tangible assets. Essentially the market values their “active users” and ability to generate future cash-flow at
approx. $8 Billion. A high number, but a far cry from double that only four months ago.
Twitter is expected to generate $3 Billion in revenue for 2016 so if we ignore the valuation metrics that Wall Street
uses for Earnings per Share (EPS) and assume their active user growth is stagnant, we see Twitter trading at
almost 3 times annual revenue.
In addition, Twitter reported it had 320 million “monthly active users” (MAU’s) in the December quarter so
(roughly) in 2016 they could generate almost $9 per active user in digital ad revenue. As the user growth has
stabilized and the share price collapsed, these numbers seem far more realistic (versus what Wall Street
investment banks have been pushing through their analysts – and which has now resulted in massive losses for
both retail and institutional investors).
There is a world of difference between a Billion dollar blue chip and a microcap stock. However, for years (even
well before the recent tech boom in blue chips), it was common for a small public company in the technology
sector to trade at 1 to 2 times annual revenue.
This assumed their growth was difficult to quantify, they had half-decent revenue, and they were not profitable -
but also not bleeding red ink. Should they be both profitable and experiencing strong revenue growth, that
revenue multiple could go to 4 or 5 times.
That is always what makes microcap speculations so attractive. They have FAR more flexibility than large
companies. Their management is very fluid as they can react to change quickly and can scale up quickly when
required. Their valuations are also low and if the share structure is well controlled (TLK a perfect example of this),
we can see share prices and valuation change rapidly when material news is announced.
Frankly (TLK) has an entirely different business model from Twitter BUT it still depends upon the “Active User” as
this helps generate digital advertising revenue for their 3rd party media clients. This also attracts new media clients
to their platform as the media company (a television station for example) sees the overall strength of the
technology platform.
So while Frankly cannot be valued on Active Users alone, it is none-the-less important and a very valuable element
to their business model.
Instead, I believe we can (at least for now), value Frankly on a more traditional metric – like revenue multiple
(with consideration given towards their ability to manage costs and turn a profit).
In the Forbes interview (link shown below)
there were a few key “takeaways” that
shed important light on both valuation
and direction for 2016 (not to mention the
big name partnership they just formed for
the media/broadcast industry).
1) CEO Steve Chung explains why he listed
Frankly on the TSX Venture Exchange
versus going the private equity route. His
explanation made perfect sense. In the
past I felt this was a big mistake because they were based in San Francisco with an office in New York – but now I
get it.
2) When asked would he like to make the switch to Nasdaq, he responds “Absolutely. The Toronto Exchange
actually encourages it... 2016 is the year we want to tell our story to the U.S. capital markets.”
This is an extremely important statement. Exposing this story to American investors could change their valuation
dramatically. They have a tight share structure which makes the stock tough to buy at lower prices. Americans get
a huge price discount on the share price (buying in American dollars), and their fundamentals are strong enough,
that they could do a moderate financing with a New York investment bank to get listed on NASDAQ – and then the
valuation and growth changes again.
3) When asked Will you be able to become profitable in 2016, Chung responded “Yes. We’re very close to it today.”
Again another very important statement. Thanks to the $60 million acquisition last summer, their annual revenue
for 2016 should approach CDN $30 million – this assumes no abnormal growth opportunities. If the company is
close to profitable on that revenue, then we can realistically assume TLK should be worth a minimum of 1 times
revenue, and in theory anywhere between 1 and 2 times revenue.
__________________________________________________________________________________________
$30 million in revenue / 32 million shares outstanding = 94 cents/share (1 times revenue) or approx. $1.80 on 2
times revenue.
__________________________________________________________________________________________
These valuation numbers are also very realistic when you consider their network now has exposure to an
estimated 80 million “Monthly Active Unique Users” (quote from the interview). Their objective will be to grow
that active user base plus increase the digital advertising revenue from each of those users. As I explained above
with Twitter, active users are extremely valuable on the Internet.
4) And finally, Steve Chung explains where their industry is headed (and why the focus on media / broadcasting).
Traditional television and radio is struggling to compete with the Internet BUT they will never disappear or fail to
remain competitive – they just need to reinvent themselves. And that is where Frankly hopes to become a leader.
[note below that Feldman is the interviewer]:
Chung>> The past 10 years were the era of the platforms with Facebook, Google and Netflix, which didn’t create
any content. But once the platforms became saturated, you needed content to fill them in. I believe 2015 was the
year the pendulum started swinging back to content. That’s Hollywood, the YouTube star, the blogger, anybody
with content. It’s why you see Netflix creating original content. All of them need a platform partner to unlock the
power of their content across multiple devices. We can provide them with a one-stop shop for technology,
advertising, monetization of that content, and even distribution.
Feldman>>: It’d be great if 2016 is the year of content.
Chung>> I think it will be. It’s sort of like World War 3 right now because everyone is trying to go direct to you, the
user. The cable companies, the TV networks, the TV manufacturers, Hollywood – everyone is trying to cut out the
middleman. So this war is being waged, and we are the arms dealers to this war. We’ve made our strongest play
now on the local TV stations, but we are talking to all these players.
MARIMBA – 500% GAIN a TEXTBOOK CASE OF “MISSING THE BOAT”
As many of you may remember, when the tech boom of 1999/2000 came to a crashing halt, I turned my research
focus to NASDAQ tech companies who raised enormous amounts of cash. I put together a list of 40 companies that
within two years, had all generated dramatic triple digit gains.
Marimba (MRBA) was the one company that stood out because it typified how investors often miss
opportunities sitting right under their nose. They prefer instead to over-pay once herd mentality has kicked in and
the stock is dramatically higher.
In 2002 I frequently recommended Marimba as they had > $100 million in cash worth $2 per share and about $35
million in annual revenue. Yet at $1.40 you could not give that stock away - in fact you could buy all you wanted for
months below $1.50 (30% less than the value of their cash).
By April 2004 BMC Software paid $240 million for Marimba at $8.25 per share. Very little fundamentally had
changed with Marimba but the broader market improved. In just over 18 months, investors could have made 500%
with no risk – it was completely brainless money because of the large cash position and the fact they controlled
their burn rate.
Obviously not every situation is going to be a Marimba, but it is often very easy to overlook fundamentally strong
companies when no one else is buying them – or even paying attention. Investors assume there must be
something wrong BUT more often than not, it is the stock market that is completely wrong about valuation – this
applies to both high and low prices.
The stock market is FAR from efficient and it is proven time and again with microcap stocks.
CONCLUSION
In the past month, TLK has partnered with tech giants on a new initiative for the media industry AND they have
been written up in Forbes. The stock has been ignored.
When this finally wakes up, I believe (much like Marimba) investors will look back and realize there was a
tremendous investment opportunity sitting right under their nose.
Of course, there are inherent risks to buying any microcap stock and investors need to assume those risks and have
patience if they hope to hit significant capital gains over one to two years.
CORPORATE PRESENTATION:
http://franklyinc.com/wp-content/uploads/2015/11/Corporate-Overview-November-2015-FINAL.pdf
FORBES INTERVIEW:
http://www.forbes.com/sites/forbestreptalks/2016/02/11/why-silicon-valleys-frankly-opted-for-canadas-junior-
stock-exchange-over-vc-funding/#abe1fe81dc88
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