Tuesday, January 24, 2017

An AIM Equity Holding: Web.com Group (WEB)) by Andy Reed. “Can WEB's acquisitions move them onward?"

Web.com Group (WEB, $19.45): “Get Caught in this Web!”
 By: Andrew Reed, AIM Student at Marquette University

Disclosure: The AIM Equity Fund currently holds this position. This article was written by myself, and it expresses my own opinions. I am not receiving compensation for it and I have no business relationship with any company whose stock is mentioned in this article.

·         Web.com Group, Inc. (NASDAQ: WEB) is a leading provider of website services, enabling small and medium sized businesses to effectively reach consumers and clients, alike. The company does this through a number of solutions, including search engine optimization and website designs, along with a multitude of other ecommerce solutions.
·         WEB’s management team, after a successful analyst day and 3Q earnings report, remains full steam ahead on completing its shareholder-friendly approach to a 2016 described by CEO, David Brown, as “a transition year” for the company.
·         Despite growing pains from the  March 2016 Yodle acquisition, which have been well documented, Q3 non-GAAP EPS ($.76 vs. $.63-.67) and EBITDA margins (26% vs. 22%) came in comfortably above management’s previous estimates.
·         WEB is steadily on its way into an operationally important 2017 with levers to pull, small businesses to serve, and shareholders to please.

Key Points: Web.com, originally added to the AIM Small Cap fund in November of 2016, has been able to keep investors happy over the last two months. With the Q3 earnings beat, and only a slight revenue disappointment, which management attributed mostly to a commoditizing and shrinking DIY portion of the business, the company seems poised to effectively march ahead with recently acquired paid-search algorithm firm, Yodle, Inc. Beyond Yodle’s impressive customer penetration (50,000 small business customers in 250 industries, according to Yodle’s website), its presence also allows Web to expand its recurring revenue stream in the long term in industries such as real estate. Yodle’s real estate platform will allow Web.com to provide more valuable solutions to more clients in a more cost effective manner, with further cuts in sales and marketing expenses expected to aid the margin accelerations.

In addition to business model improvements provided by recent acquisitions, Web.com management remains steadfast in its efforts to borrow and repay responsibly. During Q3 alone, the company reduced its debt burden by $23 million, and has reduced its borrowings related to the Yodle acquisition by $43 million since March (13% of the total purchase price). Looking ahead, management expects to continue these repayments and reiterated guidance for $32 million in total cost synergies from the acquisition. Also announced on the earnings call, the company’s existing $100 million share buyback plan was “renewed”, with another $100 million approved by to Board of Directors, in addition to the $79 million in shares already repurchased since the program began. Opportunistic and responsible cash deployment have Web.com set up well for 2017 and beyond.

Moving into broader industry trends, Web.com finds itself uniquely positioned with its more lucrative and difficult to replicate “do-it-for-me” marketplace. As indicated by management, DIY gets more and more difficult with each passing day, with companies like GoDaddy.com constantly pressured by new entrants. Because of this, there has been a strategic shift away from DIY, which brought a 12% decline in YoY revenue for WEB in Q3 2016. The paring down of the DIY business at the company into more lucrative VAS businesses has hampered short term results; however, should prove effective for both WEB and the clients it seeks to serve.

What has the stock done lately?
Following the Q3 earnings call and subsequent analyst day, WEB’s stock jumped up to its 52-week high of $21.50 just before the new year. Since then, the stock has pulled back ~8%, with investors likely pulling back hoping for more answers regarding company’s integration efforts and results on the Q4 earnings call. As margins continue to improve despite disappointing top line figures, investors will likely seek reassurance that the company’s strong track record of cash flow generation can continue.

Past Year Performance:
The past 365 days have been somewhat of a bumpy ride for Web.com’s common stock. As mentioned previously, the stock bottomed for the year at $13.45, only to rally 57% by the final trading session of 2016. The stock is currently trading at TTM P/E of 12.8x. well below both historical and peer averages.

My Takeaway:
We continue to own the stock, and for good reason. With a quality management team dedicated to the long-term vision of generating positive returns on invested capital and growing investors’ share of the pie, WEB.com continues to successfully navigate a dynamic industry backdrop. While we remain owners, the next two to three quarters will prove important for the company to show that Yodle and other acquisitions can continue to build on already ballooning margins, but not at the cost of becoming too lean. A strong track record of successful acquisitions has us ready to find out where WEB can take us!

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