Ian King is out with another promo for his Automatic Fortunes newsletter published by Banyan Hill, and like most such “presentations” he makes some huge predictions to tantalize you with dreams of wealth.
And they’re also (again) being a bit sneaky with the offer they’re making, so make sure to read the fine print if you actually subscribe… the newsletter is pitched as being $79/year with all the “special reports,” but your subscription also comes with a “free” three month trial of Jeff Yastine’s Total Wealth Insider, so if you don’t cancel that “trial” and let the autorenew happen, you’ll end up paying $194 a year for both newsletters. Surprise!
So we’ll dig through the clues King drops, see if we can ID the stock for you, and leave it to you to decide whether you want to research the stock more… or even subscribe to the newsletter if you so choose.
It’s all about “big data,” and King’s spiel basically builds on the fact that data will be the driver for all the other hot tech “stories” in the next few years…
“Michael Dell calls this master technology the next trillion-dollar opportunity….
“This master technology will be bigger than artificial intelligence. Bigger than 5G. Bigger than self-driving cars. And bigger than the Internet of Things.
“And it is all but guaranteed. Because without it, none of these other technologies can even exist.”
The biggest opportunity ever? That’s the implication from the ad…
“…. we will never see a technological revolution like this again in our lifetime.
“Which is why my team and I spent the last year finding the best way to profit from this single opportunity.
“And after months of research, data refining and investigating … we’ve done it.”
Ah, so what is this “best way to profit?” More from the ad:
“We’ve pinpointed a little-known company in the heart of Silicon Valley that holds the key to unlocking this new technology … giving investors the chance to profit from a massive 18,767% industry growth.
“And that growth isn’t hypothetical … it’s practically guaranteed.”
Did you read that as “you’re guaranteed to have 18,767% returns?” Congratulations, you’ve just made an ad copywriter very happy!
We get a little spiel about how important and huge “big data” is…
“Big Data is what we call this mass of digital information that can be analyzed to reveal patterns, trends and associations … but most folks are unaware of how large Big Data really is.
“Consider this … 90% of all the data in human history … dating back over thousands of years … has been generated in just the last two years alone.”
And hints about a few of the big winners the market has already produced…
“Talend, a Big Data cloud-computing company, has already shot up as high as 136%…
“Alteryx, a company that helps businesses blend data from several sources, has soared to a peak of 533%…
“And Oracle, another Big Data cloud company, has soared as high as 1,633%…
“And as great as those gains are, the opportunity in front of you today — this little-known California-based company — could be even bigger.”
“Big Data” is a complex idea, all about collecting, processing and monitoring machine-generated data — whether that’s customer shopping behavior or temperatures in power plant boilers or airplane arrival times or millions of other data points — and turning that data, most of which is never looked at or used at this point, into something useful or actionable. King uses an oil metaphor to try to explain…
“In fact, industry insiders are proclaiming that…
“Big Data Is the Oil of the 21st Century
“That it is the new ‘raw material of business’…
“And that it could even ‘change the world’….
“So much new data is being created that 80% of it is currently worthless. We call it ‘crude’ data because it’s collected and stored until we know what to do with it.
“This crude data, sitting on servers, is like having billions of barrels of crude oil just sitting around.
“It’s useless until it’s refined by analytics into what I call ‘digital gasoline’ — information that can actually be used to generate profit.”
So, naturally, this company he’s teasing is a “refinery” for data…
“Their data-refining software is going to absolutely change the game.
“So much so, they’ve already become known as the ‘Google for IT (information technology) data.’
“Which is why this company has been building a massive customer base … from around 3,700 companies when it went public in 2012 to more than 16,000 today.
“The list includes 90 of the Fortune 100 companies.
“It boasts clients such as Coca-Cola, Comcast, Groupon and Nordstrom. Even data giants Amazon, Google and Microsoft use its software.
“So it’s no mystery why annual sales have soared a massive 300% over the last five years.”
OK, so those are some good clues… what else?
“What’s amazing is that most companies’ growth slows down as they get bigger … but with this company, the growth is actually accelerating.
“That’s higher sales growth than Google (108%), Amazon (162%) and Apple (45%) … combined!
“As one investment analyst commented: ‘Its numbers are truly mind-blowing,’ and another said it’s ‘a cutting-edge firm in the field of machine data’….
“It’s no wonder that 31 analysts recently gave this stock a massive buy/outperform rating, while only one gave it an underperform rating.”
He also throws in Warren Buffett’s favorite term, the “moat” that defends the best companies from competition:
“And here’s something you will really like. They have a moat. They basically own the data-refining field with more than 200 patents, and 500 more are pending. In other words, they have a near monopoly over the expected 18,767% growth.”
We also get some big-picture growth stuff, expanding on that 18,767% growth number….
“According to Scientific American magazine, every company in the world will need a data refinery … basically forever….
“And as the data economy grows in importance, data refining could blossom into a massive new industry … from a $5.3 billion niche to a potential trillion-dollar mega industry … soaring over 18,000%.”
And one final tantalizing promise…
“And this company will be leading the pack … that’s why I believe it could grow more in the next year than Amazon, Facebook or Google have grown in the last 10 years.”
Man, can’t you feel the sweat beading up on your forehead just form imagining that? Facebook has had 1,600% revenue growth since going public less than a decade ago, and Alphabet and Amazon have been no slouches in that department either, with revenue growth of about 1,000% and 550%, respectively (the stock returns? Amazon’s up 2,170% and Alphabet 426% in the past 10 years… Facebook a little less than 400% in seven years since going public).
So who’s being teased as this “Data Refinery?” This is good ol’ Splunk (SPLK), which was one of the early “crazy valuation” story stocks to come public in the early days of the “unicorn era” in venture capital, after the financial crisis, and has enjoyed the lift that “cloud” sector has gotten over the past two years (and, in the past few weeks, has enjoyed the downside of that leverage to investor cloud sentiment).
Incidentally, I noticed an interesting bit of trivia — since both companies went public in 2012, Splunk and Facebook have had almost identical revenue growth… though Facebook surged to profitability much more dramatically and has outpaced SPLK’s stock market returns, 387% to 204%.
Here’s how the company describes itself:
“Splunk was founded to pursue a disruptive new vision: make machine data accessible, usable and valuable to everyone. Machine data is one of the fastest growing and most pervasive segments of “big data”–generated by websites, applications, servers, networks, mobile devices and the like that organizations rely on every day. By monitoring and analyzing everything from customer clickstreams and transactions to network activity and call records–and more, Splunk turns machine data into valuable insights no matter what business you’re in. It’s what we call operational intelligence.”
I think the only other time I’ve written about Splunk was when I thought seriously about shorting the stock at $35 back in the fall of 2012 — I suppose that could have worked out, had I been nimble (it fell for a bit to the mid-$20s, then rebounced and went on a steady climb to near $100 over the next year or so), but it would have taken some fancy footwork… and it’s probably a good thing I didn’t try.
So let me start over and try to give it a fresh look today.
Splunk has grown tremendously in the past seven years, revenue has gone from about $200 million in 2012 to $1.8 billion last year ($2 billion now on a trailing basis), but they are apparently not yet at the scale they envision as possible because they have continued to manage for growth, not profit, spending massively on SG&A and R&D.
They have posted losses averaging over $250 million a year since 2015 — though, thanks to the fact that employees are largely compensated with stock and they did a big debt offering last Fall (about $2 billion), they do have plenty of cash to sustain the business at this rate for another few years without selling more stock. The last secondary they did of any size was back in 2014, when they raised $540 million… but they’ve been sort of doing “shadow” stock offerings, over the past four years total stock-based compensation has been $1.4 billion (combined — last year’s was $442 million), so instead of selling shares to raise cash to pay employees, they give employees shares in lieu of salary, so those employees can sell.
The magic of Silicon Valley accounting… which is illogical but hasn’t really been fought by investors for years. The share count is not really rising despite all this stock-based compensation, and that’s because they do share buybacks to cover the new shares created for employee compensation — over the past twelve months, they’ve paid stock-based compensation of about $10 billion, and bought back about $10 billion worth of shares… which is a great way to improve your cash flow and “adjusted income” numbers by essentially pretending that employee compensation is a capital investment.
Major insiders have certainly been selling hand over fist, so presumably other employees have as well… after all, you can’t pay your rent in San Francisco with shares (average rent now just slightly below $4,000 a month, FYI, for a one bedroom apartment).
And as with many tech companies, they also do lots of acquisitions — generally buying up a couple little companies every year, largely to acquire talent and bolt-on features for their products, but last month they announced a relatively large acquisition, buying private SignalFX for $1.05 billion ($600 million in cash, plus stock). That will accelerate the cash burn a little bit, but they won’t be in any distress (they have $2.5 billion or so in cash now, the deal should close sometime next year).
If you’d like to get acquainted with Splunk, it’s worth browsing their website to learn what they offer to customers — it’s tough for those not in the business to really understand what data analytics and machine learning really mean (which is why King uses the term “Data Refining”), but it’s important to have at least some idea of what they actually do when you’re trying to figure out how they make money (or how they might make money someday, since they don’t today), and try to build an understanding of why you think the business can continue to grow or become more efficient as they grow.
My impression? I’d like to work at Splunk, employees get a lot of equity… but more seriously, they are in a fairly clear (and so far successful) transition from “software sales” to cloud “subscriptions” for their data processing, which depresses current revenues but makes future revenues a little bit more predictable (their average customer is on something like a three-year contract).
That transition hit a hiccup, at least in the minds of investors, over the summer — that last quarter was a “beat”, with continuing strong growth, but it also showed some signs of a little weakness in “bookings”, which makes folks a little nervous but could also be a one-time thing (similar to what happened with DocuSign (DOCU) last quarter, for example, now forgotten and forgiven after bookings recovered this quarter)… and, perhaps more importantly, the transition from up-front sales to cloud subscriptions also is really hitting cash flow — unlike in past years, Splunk will not be generating any free cash flow this fiscal year (they’re halfway through their 2020 fiscal year). There was a good summary of the “surprisingly painful” news in Barron’s if you’d like to see some analyst commentary.
They’re not the only ones to have similar growing pains — little New Relic (NEWR), for example, which is also a “big data” company, focused on application performance management, also got clobbered last month (stock is down ~40% now) because of what they also described as a “one time” issue with new product introductions and lower guidance for the current quarter. Trading at steep valuations means everything has to go well, every quarter.
So the valuation of Splunk gives me a headache, but they are growing really, really fast, which is what most investors care about most of the time. Here’s a quote from the earnings call that caught my eye:
“According to IDC, by 2025, the average person will interact with a connected device nearly 5,000x per day. Further, there will be 175 zettabytes of data, 5x more than today, and 90% of this data will require some level of security but less than half will actually be secure. The future is clear. Data represents the biggest opportunity and the biggest threat to businesses, governments and frankly, to humanity.
“Splunk’s strategy is simple and powerful, to bring data to everything. By bringing data to every question, every decision and most importantly, every action, we are committed to delivering the technology platform required to instantly connect all forms of data from any source in any format, instantly enabling the new approaches required to produce data outcomes and stop security threats, all at ferocious speed and massive scale.”
The positive thought for Splunk is that they are growing very fast despite the fact that they’re already pretty big, and they have ambitions to become a dramatically larger company to address an enormous market that is just emerging.
And the negative thought is that you’re paying a helluva lot for the current business, given that they are nowhere near being sustainably profitable (GAAP-wise) and are unlikely to be so for years (at least)… and they’re still pretty early in this transition from software sales to cloud subscriptions, with no real guarantee that it’s going to work out as well as they are planning.
It’s really a question of deciding whether you’re willing to buy the future, and think of the company’s prospects they way they want you to — if so, then it’s arguably pretty interesting. They trade at about 56X current-year earnings if you go by their “non-GAAP” numbers (not counting the non-cash share payments, which are something like 20% of their expenses)… and on those same terms they’re at 45X next year’s expected “earnings” and 35X FY 2022 earnings, which can (arguably, again) be justified if you’re growing earnings by something like 30% a year (that’s the forecast for their CAGR from last year to 2022).
And thanks to the crazy performance of so many cloud SaaS stocks and other “hot” tech stocks over the past few years, Splunk’s price/sales ratio no longer sounds extreme — it used to be that 8X sales was a pretty steep price to pay even for a growth stock, but these days it sounds downright quaint (there are 50+ large cap tech stocks currently trading at a higher p/s ratio than Splunk, all of which are close to or larger than SPLK’s $16 billion market cap, including other “cloud transition” firms like Adobe, Intuit, AutoDesk and others, as well as “cloud native” firms like WorkDay, Twilio, Slack, Okta and Atlassian).
They’re on the right trajectory, with the transition to cloud causing a pretty weak cash flow year and bringing the stock price down… but if revenue continues to grow at 20% a year and the cloud transition works, getting them back to the long-term goal they have of a 20% cash yield for the business, they will eventually become profitable and the efficiencies of scale will eventually kick in. It’s mostly a question of whether or not they’ll be able to hold off the competition… and carry this high valuation while we wait.
I’ve got enough high-growth scary-valuation stocks in my portfolio, and I confess to not really understanding Splunk well enough, so I won’t be buying today… but they are growing very fast for a very large company (market cap now $16 billion), so it’s certainly quite possible that it will work out well… and the stock is down 23% from its high in late July, thanks largely, it appears, to the fact that they guided for a cash burn year because of the cloud transition (meaning, no free cash flow this year), so it’s looking a little more appealing than it did a few months ago. On the other hand, though, the whole class of “super expensive cloud stocks” is falling today and could, of course, fall much lower if investors begin to care more about safety and less about growth.
Disclosure: I own shares and/or call options on Alphabet, Apple, Facebook, Amazon, Slack and Okta among the companies mentioned above. I will not trade in any covered stock for at least three days, per Stock Gumshoe’s trading rules.