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Actionable news in MB: MINDBODY Inc,

Nama'Stay Away From Mindbody

Summary

Mindbody is the latest chapter in the comedy routine known as the “JOBS Act” and shares striking similarities with recent epic JOBS Act blowups.

We think the company refused to provide churn metrics to the SEC at the time of its IPO to obscure the fact that churn appears to have exploded since 2012-13.

With the company approaching saturation and fundamentals rapidly deteriorating, we think insiders staged a well-timed IPO fueled by hot air and hype.

We think the company used one-time gimmicks to boost revenues ahead of its IPO – these overlap soon and at >5x revs there is no valuation support.

This is NOT A SaaS company. This is NOT Opentable. MB is a low quality play on fitness studios (truly awful businesses); we see >80% downside in the next year.

In 2012, the JOBS Act became law and completely changed the IPO playbook. Companies that would have otherwise been relegated to bankruptcy or the pink sheets suddenly become a vast treasure trove for IPO underwriter fees. Slap together a "story" (hint: include the term "disruptive" and "huge TAM"), a couple of "Tier 1" investment banks, and revenue growth financed by reckless losses, and you have all of the essential ingredients for a JOBS Act success story.

And what exactly is a JOBS Act success story? When the underwriters and insiders have done their job, the stock merely needs to hold above its IPO price for the better chunk of 12-18 months leaving the VC backers and insiders with a window to dump as much as possible. This is of course before the inevitable occurs - the illusion of growth disappears as investors (often retail shareholders) come to the startling realization that the business in question does not in fact exhibit any operating leverage whatsoever. Rinse and repeat. This pattern has played out many, many times since 2012. Over the past few years, it has also been one of the most effective ways to make money short selling - in an environment that has otherwise been incredibly challenging for short sellers to navigate.

Which brings us to the topic of today's report: Mindbody. After closely analyzing this company for weeks, no matter how hard we tried to "contort" ourselves into various yoga poses, we were unable to see anything about this company that could ever plausibly justify a valuation of even 1/5 th the current market cap. In fact, as we went through the "story" of Mindbody, and analyzed the company and assertions from management, we came to the conclusion that Mindbody exhibits many of the obvious red flags we saw in a number of epic JOBS Act IPO busts. We think its fate will be identical to other JOBS Act disasters, and think the stock is worth 80% less than where it currently trades.

The Friendly Bear prides itself in a fundamental approach to investing, but admits that at times, technical analysis can be helpful. Which is why we would like to introduce readers to the latest technical formation that we see emerging in Mindbody shares: the dreaded "Downward Dog" formation:

Source: pgithens wordpess

Before we get into the meat of the thesis, we may as well get this out of the way right now. At north of a $700M enterprise value, Mindbody is simply one of the most egregiously overvalued "bubble stocks" we currently see in the public markets. And this is saying something. In recent years, we have seen a lot of absurd IPOs.

It seems like only days ago when enterprising underwriters managed to take a levered Tier 2 rave promoter public for almost a $1 billion valuation. We also fondly remember when a refrigerated pet food company was going to sweep the globe, with research firms justifying north of a $1 billion valuation for a company that has excelled in doing only one thing: losing money. And of course, who could ever forget the Santa Monica based CEO who is no longer with his company, who told us he was going to revolutionize the way we buy cars by tacking on a $300 middleman fee and calling it disruptive.

While we admit that MB does have a very widespread following in yoga/pilates circles - at the end of the day, it's a basic software package that services the yoga and pilates industry, with some use cases in non-fitness verticals that face far greater competitive intensity (we go into much more detail on this later in the report).

For readers less familiar with the company, Mindbody makes revenues in two ways. About 2/3 rd of revenues come from a monthly subscription plan sold to yoga studios, pilates studios, other boutique fitness studious, and salons etc. These users pay a fee of ~$120 / month in order to use Mindbody's software. Mindbody contracts are generally all on a monthly basis, meaning users can cancel as they please. The software enables the studio to take and manage bookings, and to also schedule instructors and classes. The rest (~35%) of Mindbody's revenues come from payments in which Mindbody collects a revenue share on payments for classes/appointments that are processed through the MB platform.

In our view, Mindbody is ultimately a nearly fully penetrated company that sells into one of the most awful industries in the world. The company boasts a 15+ year history of losses yet trades at a $700 million enterprise value. This company should really be a feature offered by a company with a diverse offering of apps, acquired for $100 million in a fire-sale VC auction. Not a public company. A gentle reminder: this "$700 million" business that could probably be recreated in the course of a month by a couple computer science undergrads with basic knowledge of app coding and $1 million of funding.

What is most alarming is that we believe Mindbody is currently exhibiting all of the hallmark red flags of JOBS Act IPOs that ultimately collapsed. The company employed window dressing to prop up numbers ahead of its June 2015 IPO, growth is rapidly decelerating, competitors are flooding the market, and a bevy of non-original underwriter sellside firms are out touting the stock as the greatest thing ever at the exact same time that the window appears to be opening for the company to pull off a much needed secondary for the VCs. The company is about to face very difficult comparisons as it overlaps last year's "window dressing". The revenue beats have already shrunk dramatically. The end is near for this story stock. In the Friendly Bear's view, the MB promotion has run its course, and now is the time to sell.

Below, we highlight the similarities between MB and other busted JOBS ACT IPOs:

Source: Friendly Bear graphics

The table above provides just a small sample of bogus and busted recent IPO growth stories that ultimately cost investors a lot of money. It is worth noting that it took approximately 12 - 18 months following IPO for many of these growth stories to see their end. Given Mindbody listed in June 2015, we think that the time has come to press the short.

Table selection is one of the easiest ways to boost your overall win rate in poker. We see JOBS Act IPOs that look and feel like Mindbody as being some of the worst "tables" to be at in the stock market, particularly after a 1 year IPO anniversary.

In this report, we show that Mindbody is the latest chapter in a series of busted growth story IPOs brought to you by the JOBS Act. We think the writing is on the wall and we think insiders and original VC backers are well aware that the end is near for this story stock. With the stock initially languishing below its IPO price for over a year, we think the setup was simply too difficult for MB to pull off a secondary. However, given the recent sell-side driven surge in MB shares, we expect a mass exodus from both VCs and insiders in upcoming months.

We therefore advise investors to Nama'Stay Away from Mindbody.

Potential Real Motivation Behind Mindbody's June 2015 IPO Foreshadows Disaster:

A natural question you may be asking is why there have been so many AWFUL JOBS ACT IPOs? Where are the high quality growth companies? When we speak with our friends at VC firms, many note that the public markets are the last place that true growth companies turn to for capital due to easy access to capital from the private markets. In fact, VCs and entrepreneurs we have spoken with view the public markets as a "capital provider of last resort" - generally only tapped when a company has hit the wall from a growth perspective and can no longer access the traditional private pockets of "growth capital". For best in class growth companies (i.e. the Ubers, Palantir's, and AirBnB's of the world), late stage VC dollars from PE firms and mutual funds readily step in, allowing such companies to avoid the challenges that go along with being a public comp any. And worst in class growth companies that are seeing growth inflect negatively are often forced to go public to provide VCs with a return on their capital.

Our research into Mindbody suggests that this "growth wall" phenomenon may have been a driving force behind MB's decision to go public. But don't take our word for it. Here is an incredible excerpt from a recent article interview with MB's CEO in which he discusses his thinking about the timing of Mindbody's IPO:

Source: TechdayHQ

It is rare that we get an opportunity for such a candid opinion from a CEO regarding his motivations for going public. So let's analyze the statement from the CEO above in close detail, as we think it is crucial to our bearish thesis on Mindbody.

In the CEO's view, VC money is on a "time clock" (we agree) and requires one of three endpoints - IPO, strategic sale, or "wild profitability".

Given MB took the path of going public last year, we can safely assume that there were no immediate buyers at the IPO valuation. VC firms strongly prefer strategic exits (assuming valuations are equal) given that strategic exits result in a far faster path to liquidity (i.e. avoids the need to dribble out shares over the course of years).

According to the Mindbody's CEO, the third exit node "wild profitability" rarely happens. In fact, in the worldview presented by the CEO, the decision to go public appears to somehow be inexplicably mutually independent from the ability to generate "wild amounts of profitability".[ Friendly Bear Note: This sentiment alone should be enough of a red flag to scare you away from investing in this company].

In the spirit of an election year - we turn to our trusted "fact checkers". Is the CEO's claim right, that VC backed firms such as MB are "rarely profitable"?

A very simple and hard to argue with comparable to MB is a company that is well known to the general public - Opentable (now owned by Priceline). Both companies play in niche markets (restaurants vs. fitness studios), and both companies are very "local" in nature (i.e. both restaurants and fitness studios are inherently local markets), and both companies generate revenues by the number of "seats" filled (OPEN's model is a more direct per seat payment model, versus only ~35% of MB revenues are directly tied to the payments side of the business - but the model continues to pivot in that direction so we believe it is an appropriate comp).

So let's look into Opentable's history and historical results. Opentable went public in May 2009. In FY 2009, the company posted $69 million of revenues and $14 million of EBITDA, representing a ~20% EBITDA margin. By 2011, the company was doing ~$140 million of revenue and $45 million of EBITDA.

A Comparison of Opentable vs. Mindbody at Various Life Stages

Source: Bloomberg

In our view, Opentable's ~20% EBITDA margins in its first year as a public company and ~35% EBITDA margins ~2.5 years later can reasonable be characterized as"wild profitability". Few companies attain such high EBITDA margins. So magically, Opentable managed to fulfil two nodes from Stollmeyer's interview. The company went public AND achieved "wild profitability".

So perhaps Opentable was just a much older company? Perhaps Opentable had many years of head start against Mindbody, allowing Opentable to attain profitability far earlier than Mindbody. As mentioned previously, Opentable was founded in 1998 - so it obviously took several years for the company to reach the $69 million revenue threshold.

Imagine our shock then when we looked into the formation of Mindbody and discovered the following:

Source: Google

Despite being formed only two years after Opentable, Mindbody has never been able to break a profit. What is even more alarming is that the CEO of Mindbody has all but admitted that "wild profitability" is a stretch goal that was not even on the table at the time the company went public.

In fact, in that same interview, the CEO readily admits that the only reason MB went public is because the "door was closing on the opportunity to go public and [he] felt [MB] needed to go out before that door was shut".

As you proceed further into this report, we will make the case that the CEO was in fact being totally candid and truthful in the excerpt above. The window was in fact closing. Since going public, Mindbody's true underlying growth has been rapidly decelerating and the company window dressed itself for its IPO to keep the story afloat. With the window dressing now in the rearview, we believe the stock is on the verge of collapse.

So if you are long this stock, please ask yourself - do you want to be on the other end of this rushed IPO that provided the original backers with liquidity ahead of a massive stepdown in growth?

How to Dress Up an IPO before the "Door Shuts You In":

Just like many of the other JOBS Act IPO disasters we identified, we think that Mindbody essentially dressed up its financials ahead of its IPO in order to create the illusion of robust growth out the gate. As we have seen with other names we follow (i.e. Coupons.com), these gimmicks only work for so long and when the "gimmick" starts being overlapped, the real growth rate in the business suddenly becomes obvious.

We caught a rather interesting line out of the S-1 and 10-K filings from Mindbody. In the body of the document, Mindbody states the following:

In January 2015, we introduced changes to our pricing model for new subscribers, and in the future we expect to make further changes to our pricing model from time to time.

"A change to pricing model" is an obvious euphemism for a price hike. The data supports this theory. This is a tactic we saw used successfully by other JOBS Act IPOs. For example, Grubhub jacked up its take rate aggressively right around the time it went public by switching its pricing model. While that stock has had a roller coaster of a ride and is back near all-time highs today, it is worth remembering that the market initially grew weary of the company in the year following its IPO and the stock saw itself cut in half after the market recognized that the price hikes would not sustain and that underlying volume growth had been decelerating.

So where is our evidence of a price hike? Below, we ran the ARPU per quarter for MB:

Source: MB SEC filings, Friendly Bear analysis

As luck would have it, MB's pricing held fairly flat throughout 2013-2014. But just as news media accounts suggested the company was exploring an IPO, the company magically decided to "modify its pricing model". What did this result in? Explosive growth in ARPU, with ARPU shooting up from the ~$140 range c. late 2014 all the way up to the $200 per month range in 2016. And lest we be accused of bias - it is not as if the payments business was the driver of all of this delta (more on the payments business later). The delta was driven with price hikes in both the ~65% of revenues that come from subscriptions AS WELL as the ~35% of revenues that come from payments:

Source: MB SEC filings, Friendly Bear analysis

The biggest red flag for investors should be the 1Q16 and 2Q16 ARPU figures. As one would expect for a company that "window dressed" itself ahead of its IPO, after driving through massive price increases that began in January 2015, the company saw its sequential ARPU essentially flat-line over the 1Q16 to 2Q16 at ~$200/month. So why is this a huge problem?

Payments remains a growing albeit smaller piece of the overall Mindbody business. It is also a piece of the business in which Mindbody has very little control and over the course of time we believe will face hefty competition from the likes of companies such as Square Appointments. But in the long run, the core health of Mindbody and its ability to support its absurd valuation will be tied to its ability to grow subscribers.

So let's take a look at the ending period subscriber growth figures…which again, tell a tale of a company that is rapidly hitting the wall:

Source: MB SEC filings, Friendly Bear analysis

Is this a stock you want to own?

Management already pulled the pricing lever - and ARPUs are now flat-lining. The company is also seeing a REMARKABLE slowdown in subscriber growth.

Our research into Mindbody's pricing tweaks ahead of the IPO suggest that there may be more at play than just simple price hikes as well.

According to a blog post written by a competitor (Tula Software), Mindbody "held customers hostage [in order to] prop up their valuation ahead of its IPO".

The post that can be found here claims that Mindbody charges customers an undisclosed $600 fee in order to export data despite claiming that customers "own" their data. The post implies that this fee was instituted around the time that Mindbody was gearing up for an IPO (it is noteworthy that the blog post came out in March 2015, 3 months ahead of Mindbody's IPO). The source of this information is...


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