Category: Digital Ads

Q3 Stock Earnings Preview – What to Expect for 7 Ad Tech Stocks

Posted on by io-fund

This quarter, we chose to go over Roku, Snap, PubMatic, The Trade Desk, Magnite, Pinterest, and Digital Turbine for an earnings preview on what to expect from these ad-tech companies. This list was chosen by those with the most forward growth, those with the highest valuations or those that have recently completed an acquisition so we can look deeper into what the Street is expecting from management.

Roku Inc– Earnings on November 05th

Below is a chart of Roku’s financials from last year, last quarter and what is expected in the upcoming quarter.

The consensus estimates suggests that the revenue growth will be slowing down in the next quarter. Below are the analysts’ views on Roku.

  • Wells Fargo analyst Steven Cahall has recently downgraded the stock to Equal Weight and reduced the price target from $488 to $350. He states that "The primary reason we go from Overweight to Equal Weight is, while there may still be a long ARPU runway, it's far better understood," Cahall writes in a note. "Consensus CY22E/CY23E ARPU is +50%/+47% over the past year to now $50/$60. In our January deep dive, we called CY22E ARPU of $55 a bull case scenario; but current consensus shows our alpha has decayed. The Q2 ARPU beat slowed a lot from Q1."
  • On the other hand, Guggenheim analyst Michael Morris says that the recent sell-off is a good opportunity to buy the shares as he upgrades the stock from a neutral rating to a buy with a price target of $395. “We expect the connected television ad marketplace will continue to grow at a rapid pace and that Roku will be a primary beneficiary — this view is unchanged,”
  • KeyBank analyst Justin Patterson has said that the New Amazon fire TV’s as an incremental positive to the company and its competitive position. He notes that Amazon’s devices appear to be similar to Roku’s offering.

Please note, the I/O Fund does not necessarily agree with the financial analysts mentioned above rather our goal is to objectively review companies. Our premium members have been updated frequently on Roku and we have been able to buy this stock very early before the market understood the true potential of this cord-cutting and AVOD play.

You may view our previous analysis on Roku below:

Video: Is the Bottom in for Roku?
The Crucial Difference Between Roku and Netflix
Will Roku Go Boom or Bust This Year
Roku’s Stock Price: Will There Be Another Pullback?
Roku Q3 Earnings: Choppy But Unshakeable Long-Term
Update on $ROKU – Will Roku Miss Earnings?
3 Reasons Why Roku Will Be The Next Tech Darling
Here’s Why Roku Stock Will Surpass $100 In Next Two Years
Long on Roku – Even if they Miss Q1 Earnings

PubMatic Inc – Earnings on November 15th

PubMatic revenue growth rate is expected to show a notable deceleration in comparison with the recent quarter although margins remain high. We will be keeping an eye on the net dollar-based retention ratio in the next quarter. The management has raised the 2021 revenue growth forecast to 38% to 40% and 25% next year.

Macquarie analyst Tim Nollen has an outperform rating on the stock with a price target of $37. He believes that the company benefits from “a strong advertising backdrop in which traditional advertising is shifting to digital, open Internet players are gaining share from walled gardens, and ad spend is consolidating around fewer SSPs,".

Macquarie further states “PubMatic is banking on real CTV growth coming from open exchange, where the OpenWrap bidding engine will be able to grow alongside that migration – though that still needs time to play out”.

“And on an enterprise value/sales basis, it's trading at roughly a 3.5x discount to its closest peer, Magnite and a 5x discount to the broader ad-tech universe.”

You can find the ad-tech companies which had their growth estimates updated in the last few months here.

The Trade Desk Inc – Earnings on November 05th

The consensus revenue estimates for the next quarter suggests a sharp drop in the revenue growth, as well. One of the primary reasons for the strong revenue growth in the second quarter was due to lower comps as Q2 2020 revenue fell 13% YoY.

Needham analyst Laura Martin has a buy rating with a price target of $100 and her 3Q21 revenue estimate is $284M.

She is of the view that “Digital markets have proven themselves to have winner-take most economics, and we believe TTD is the winner among DSP’s (demand side platforms). 30% of TTD’s revenues come from CTV which should accelerate TTD’s growth trajectory since CTV revenues are growing 3-5x faster than other digital media categories. About 15% of TTD’s 1H21 revenues came from outside the US, and offshore is growing faster than the US, suggesting a longer growth runaway”.

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Citi analyst Nicholas Jones has a price target of $85 and a neutral rating. He believes: “Trade Desk is a dominant and best-in-class adtech player, but continues to see risk associated with technology disruption and privacy regulation”.

You can view our previous analysis below:

The Trade Desk: Effects Of Lower Ad Demand In 2020

8 Predictions For Tech Stocks In 2020

Snap Inc – Earnings on October 21st

The revenue growth is expected to be lower than the second quarter but higher than the previous year. The adjusted EBITDA in the second quarter showed a strong growth when compared to the previous year. The management also expects to show an improvement in the third quarter.

Goldman Sachs’ analyst believes that the company has a high chance to achieve its target of 50% plus revenue growth in the next three years. Goldman Sachs also believes that the strong growth will be accompanied by margin expansion with the EBITDA margins improving from -13% in 2021 to 40% in 2026. It has a price target of $90.

Source: Investor Presentation

RBC is also positive on the company. They have initiated coverage on the company with an outperform rating and a price target of $88. According to the analysts “Snap has everything pointed in the right direction to become a top social media business, stable footing in an attractive secularly growing ad market, an evolving direct response/ad-load/downfunnel commerce narrative leading to potential ARPU [average revenue per user] and profitability upside and finally, new products that could invite broader usage and incremental monetization.”

Channel checks were more mixed, but the analysts think the possibility of adverse near- or medium-term effects “seems low” compared to the stage of the company’s developing monetization.

You can view our previous analysis below:

Pinterest and Snap Show V-Shaped Recovery; Cloudflare Guns for Zero-Trust

Social Media Projected to Lead Global Ad Spend in 2021

Magnite Inc – Earnings on November 09th

The company is benefitting from the strong growth in digital advertising. However, as discussed earlier the super growth was partly due to the M&A with SpotX.

Analysts are positive on this stock as Berenberg analyst Alexandra Ross has initiated coverage with a buy rating and a price target of $37. Other analysts who are positive about the company include Susquehanna analyst Shyam Patil. He likes the company as a CTV play and is also optimistic about the recent acquisitions of SpotX and SpringServe.

Earlier this year, Truist analyst Thornton said, “Magnite is well positioned in the connected-TV advertising space, with secular growth in connected TV estimated to represent more than half the company's overall revenue by 2024”.

Pinterest Inc – Earnings on October 28th

The stock fell after releasing the 2Q 21 results as the company failed to meet the consensus global monthly active users (MAUs) in spite of beating the revenue and EPS consensus estimates. The management in the earnings call mentioned that due to the lack of visibility they will not be giving guidance for MAUs for this quarter.

Source: Earnings Presentation

RBC Capital analyst Brad Erickson initiated coverage of Pinterest with a Sector Perform rating and $58 price target. “We believe user growth is likely closer to plateauing than not and our channel feedback indicated that outside of targeted categories, conversion needs improvement, particularly vs FB where we think user crossover is virtually 100%. Expectations have come down after last quarter’s miss. However, we need to see an improving content or commerce experience before getting more constructive”.

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Piper Sandler analyst Thomas Champion has a neutral rating and a $68 price target. He believes “that the post Q2 earnings selloff may be overdone. Recent monthly active user declines seem driven by non-mobile app users, which contribute less to the financial model”.  He sees a more favorable setup for the stock into year-end.

Earlier this year, Argus analyst downgraded the stock to neutral in response to lower user growth in the second quarter. “The disappointing guidance reflects the decline in online sales as traditional stores reopen and users spend more time away from home. But it has strong brand recognition in the U.S. and prospects for growth in international markets over time."

You can view our previous analysis here:

Social Media Projected to Lead Global Ad Spend in 2021

Snapchat Reported Accelerating Growth. Here’s What to Expect From Pinterest

Digital Turbine – Earnings on October 29th

As discussed, Digital Turbine’s revenue growth was partly due to the company’s acquisitions which were completed in the quarter.

Below are the details of the proforma revenue which will helps to give a better picture as the growth is around 104% for fiscal Q1 2022.

Source: 1Q FY2022 earnings release

Canaccord analyst Austin Moldow has upgraded the stock from a hold to a buy. He also raised the price target to $95. “The company has now gotten stronger with its transition into "a full phone lifecycle monetization engine" thanks to the addition of in-app advertising, which grew the total addressable market. He further notes that the Digital Turbine's valuation has "become more reasonable" and the fundamentals have improved up to justify the valuation”.

On the other hand, Macquarie analyst Tim Nollen has initiated coverage on the company with a neutral rating and $60 price target. He's unable to determine the relative position of Digital Turbine's on-device software versus ironSource's (IS). Digital Turbine's in-app advertising business has only just now come on board, and while these acquisitions are growing fast, they are notably smaller than peers”.

Oppenheimer analyst Timothy Horan reiterated an Outperform rating and $100 price target. "Single-Tap could be a revolutionary product, akin to the transition from banner ads to video. Despite the already significant dollars, Single-Tap is very early in its growth phase, with APPS being very selective on the brands being allowed to participate. The moat on Singe-Tap is sizable: IP, hundreds of millions of devices scale, as well as huge investment in last-mile measurement and attribution."

Bradley Cipriano and Royston Roche contributed to this article.

Disclaimer: This is not financial advice. Please consult with your financial advisor in regards to any stocks you buy.

ZoomInfo 2021 Analysis

Posted on by io-fund

ZoomInfo, formally known as DiscoverOrg, was founded in 2007 and is the premier platform used for highly accurate sales and marketing intelligence.  The company is a cloud-based platform that delivers intelligence and analytics to salespeople so they can better target their customers, shorten the sales cycle and increase win rates.

The company is the market leader in business to business (B2B) sales data and has recently reported an acceleration in growth, especially with enterprise customers. The company commands a dominate position, evident by its strong topline growth and cashflow generation. While there are risks, such as privacy concerns and changes to third party cookies, the company is positioned well to benefit from a market undergoing a fundamental shift, as enterprises increasingly modernize their sales processes. In the discussion that follows, I discuss ZoomInfo’s business and the fundamental shift underway in its core market, along with a discussion on its recent financial performance, valuation and key risks.

ZoomInfo’s opportunity

The core of what ZoomInfo does is to help sales professionals know what companies they should be engaging with, who makes the buying decisions and how to contact them.

The company’s B2B sales data is highly accurate as the firm employs a team of 400+ data scientists to train the company’s AI and ML models that constantly source and update ZoomInfo’s 95 million+ company profiles, 500+ million contact methods and 1.6 billion+ daily record events. ZoomInfo is known for having highly accurate information, and the company provides a guarantee that 95% of its data is accurate at any given time. The company provides buying intent data that helps source deals and up to date contact information on decision makers to help close deals.

ZoomInfo operates in a market undergoing a massive fundamental shift, which has only just begun. According to a Forrester report commissioned by the company, only 1.2% of enterprises utilize mature B2B intelligence practices and technology. The report also found that companies that have adopted some B2B intelligence practices and technology generate 35% more leads, resulting in higher revenues and faster growth. CEO-Founder Henry Schuck explained this trend during the Q2 Earnings Call:

“In our conversations with customers, we find companies are still in the early stages of modernizing how they go-to-market. They're just beginning to use data and insights instead of intuition and automated workflows instead of inconsistent one-off sales motion. This is a secular shift that we believe will accelerate.

We estimate that today, the market is only penetrated in the single-digits. And Gartner has indicated that by 2025, 60% of B2B sales organizations will transition from experience and intuition-based selling to data-driven selling, merging their sales processes, sales applications, sales data and sales analytics into a single operational practice.”

The below chart also illustrates how companies are modernizing their sales teams. According to a survey of enterprise CMOs by Gartner, marketing technology has become an increasingly larger part of the enterprise sales budget. Marketing tech has grown from ~22% of an enterprise’s sales budget in 2017 to ~27% of the budget in 2021, taking share from agencies and labor expense. Enterprises are shifting resources away from manual processes and towards tools that improve the efficiencies of sales and marketing teams.

Furthermore, B2B sales and marketing campaigns have evolved into complex projects that cost $100,000+, so having reliable data for highly focused campaigns is paramount. We can directly observe this trend with large enterprise software companies, such as Intuit, Palo Alto Networks and Splunk, each rapidly increasing their S&M expenditures in recent quarters. These companies spend millions on S&M expense per quarter to capture B2B sales.

The below chart illustrates how B2B S&M expenditures has recently accelerated. For instance, the aggregate quarterly S&M expense for the below sample of enterprise software providers increased 28% YOY in Q2 2021, an acceleration from the 11% and 26% growth rates in Q2 2020 and Q2 2019, respectively. The acceleration in B2B enterprise S&M expense adds support that ZoomInfo’s market opportunity is growing at an accelerated rate.

Another trend that supports ZoomInfo’s growth going forward is the rising trend of programmatic advertising, which is highly dependent on accurate data.  This is a favorable trend for ZoomInfo, as its robust, high-quality data is critical for efficient programmatic ad-buying. Essentially, as programmatic budgets grow, the demand for accurate third-party data increases. ZoomInfo address this demand by providing targeted audience data and buyer intent data. As the fundamental shift of modernized B2B selling strengths along with a continued rise in B2B S&M expense and programmatic ad-buying, ZoomInfo should be able to continue to grow at an accelerated rate going forward. The company’s recent results also support the narrative that there is still plenty of runway ahead of the firm, which we discuss in greater detail next.

ZoomInfo’s recent results: accelerating enterprise growth and improving cashflows

ZoomInfo recently reported an acceleration in key metrics such as sales and enterprise customer growth, highlighting the firm’s position as the leader in its end market. For instance, Q2 2021 sales increased 57% YOY to $174 million, which beat estimates by $12 million. Q2 sales included a $4 million benefit from acquired companies, and absent this benefit, organic sales increased 54% YOY, which represented an acceleration from the 50% and 53% YOY growth rates in Q1 2021 and Q4 2020, respectively.

The strong topline beat also flowed into guidance, as management increased its FY2021 sales guide by $32 million (5%) to $705 million at the mid-point. The forward guide includes $10 million from newly acquired companies, and absent acquired sales, the guide still came in 3% above the Street’s initial estimate.

Further highlighting the strength in ZoomInfo’s results, enterprise customer growth also accelerated. For instance, customers with annual contract values (ACV) >$100,000 increased 69% YOY to 1,100, which was faster than the company’s 57% YOY topline growth rate. This trend is also evident when viewed on a sequential basis. As shown below, customers with ACV >$100,00) have grown faster than sales on a QoQ basis for the last three quarters.

Generally, enterprise customers are higher value relative to other customer cohorts because they are more likely to expand into new products and can support larger budgets. As a result, the strength in ZoomInfo’s enterprise customer growth improves the quality of recently reported topline growth and also supports a premium valuation.

Another important metric is ZoomInfo’s net retention ratio (NRR), which was static YOY at 108%. ZoomInfo’s NRR is below other tech peers with retention ratios in the 130%+ range. However, the company has made a series of acquisitions and CEO-Founder Henry Schuck explained on the Q2 Earnings Call that he expects these deals to become meaningful to sales in 2022 and 2023 than in 2021. In other words, NRR will likely improve going forward as recent acquisitions are fully integrated onto the platform and cross-selling ramps. 

Continuing down the income statement, Q2 adjusted operating profit increased 38% YOY to $76 million, while adjusted operating margin fell YOY from 49% down to 43%. The decline in adjusted operating margin was due to a ramp in hiring, as ZoomInfo’s employee count increased from 1,300 in June 2020 to 2,100 as of August 2021. Adjusted EPS of $0.14 beat estimates of $0.12 by $0.02.

It is also noteworthy that ZoomInfo is well beyond the ‘rule of 40’, as its 57% topline growth rate and 43% operating margin (a proxy for cashflow margin) put it closer to the ‘rule of 100’.  In fact, ZoomInfo provided the following slide during its Analyst Day presentation, which showed that the company was in the top quartile for CY21 revenue growth and operating margins.

Further confirming ZoomInfo’s strength is its cashflow performance. For instance, free cash flow conversion was 120% of adjusted operating income, meaning that ZoomInfo collects more cash than it reports as profits. ZoomInfo is able to do this because of its strong market position, as the company collects cash upfront from customers. The upfront collection of cash is a significant advantage for ZoomInfo as it is effectively an interest free loan from customers that helps support ZoomInfo future growth. The upfront collection of cash is also a sign of market dominance, showcasing that ZoomInfo has pricing power over its customers (customers generally want to pay later, and sellers want to be paid upfront). Being paid upfront also supports a premium multiple.

As mentioned above, ZoomInfo is in a dominate market position due to its first mover advantage and large, highly accurate industry specific data. This market dominance is also present in ZoomInfo’s financials, as the company is rapidly growing with enterprise customers and these customers are paying cash upfront. In the next section, we discuss the firm’s valuation and conclude with key risks that investors should be aware of.

Valuation

ZoomInfo claims to have no direct competition, rather it competes with niche operators. Due to the lack of directly comparable peers, it is best to compare ZoomInfo to other fast growing and highly profitable tech firms, such as Zoom Video, Snowflake, Adobe, Veeva and Shopify.

Against this peer set, ZoomInfo’s P/S multiple of 38x was 28% higher than its peers but its most recent growth rate of 57% was also higher than the peer median of 54%. Moreover, ZoomInfo’s forward growth rate of 49% YOY is well above the peer median of 31%. A faster growth rate helps support a premium multiple.

As discussed above, ZoomInfo also reported an acceleration in enterprise customer growth. Since enterprise customers have larger budgets and can pay more and expand into more products, they are higher value and support a premium multiple. Furthermore, the company has pricing power as its customers pay cash upfront, which helps support future growth and also supports a premium multiple.

Key risks and conclusion

Data protection is a major theme globally. The FTC is increasingly enforcing data privacy in the U.S, European Union enacted the General Data Protection Regulation (GDPR) in 2018, the U.K. has a Brexit-amended GDPR that went into effect in 2021 and California Consumer Privacy Act went into effect in 2020. These laws have added tremendous complexity and impose certain restrictions and obligations on companies such as ZoomInfo.

However, this data compliance complexity can actually work in ZoomInfo’s favor, as it provides a barrier to entry. New entrants must try and compete with ZoomInfo’s robust data and also comply with complicated compliance burdens, which could make the endeavor cost prohibitive.

ZoomInfo also takes privacy and compliance seriously and has a dedicated team to processing requests for deletion of contact information and also announced an expansion to its privacy team. The company’s goal is to build trust and the company has implemented a program for providing direct notifications to individuals that are in its databases.

There are also risks associated with third-party tracking cookies and the IDFA changes announced by Apple. These changes impact the way that data is collected by third-parties, and could limit ZoomInfo’s buyer intent data. However, ZoomInfo rolled out ‘privacy clusters’ in 2020 “which allow ZoomInfo to deliver B2B intent in a privacy-first way without the reliance on cookies or other Identifier For Advertisers (IDFA) or Personal Identifiable Information (PII) based tracking”. So while ZoomInfo will likely be impacted by the change in third-party tracking, its focus on B2B company data, rather than individual level data, should limit the impact on the firm going forward.

In conclusion, ZoomInfo is positioned well to benefit from a fundamental shift happening with B2B selling. Enterprises are looking for ways to scale their sales and marketing programs with repeatable processes, and ZoomInfo has the data platform to facilitate this trend. The company reported an acceleration in growth as well as an acceleration in enterprise customer growth, which supports a premium valuation. Moreover, the company gets paid upfront in cash, evident by its strong cashflows, which further highlights the company’s market dominance and also supports a premium valuation. While there are risks, such as privacy concerns and changes to third-party cookies, these trends may actually work out in ZoomInfo’s favor by increasing the barrier to entry. Looking forward, ZoomInfo can be expected to continue to grow at a robust rate as B2B sales increasingly modernize.

Technical Setup

By Knox Ridley

Zoom Info’s recent earnings report attracted a swarm of new buyer. This can be seen with the large spikes in volume, which propelled ZI to new highs. After breaking out of its IPO high at $64.40 (green on the chart), ZI has been consolidating above this breakout, which is historically a bullish sign. It has further formed a minor cup and handle pattern just below the $67.50 resistance zone (blue on the chart), which it is currently attempting to breakout from. If confirmed, we expect to see a nice move within our momentum portfolio.

Disclosure: The I/O Fund owns shares in ZoomInfo and does not have plans to change its position within the next 72 hours. You can access the I/O Fund’s positions herehere. The above article expresses the opinions of the author, and the author did not receive compensation from any of the discussed companies 

Social Media Projected to Lead Global Ad Spend in 2021

Posted on by io-fund

Global digital ad spending is projected to grow 10.1% YoY, powered by 18% growth in social media, according to a report from Dentsu, an advertising and public relations company based in Japan. In China, social media ad spending is forecast to rise 29.6%.

Growth in Global Ad Spend Within Digital (Graph)

Source: David Marlin

In the U.S., digital ad spending is projected to grow 17% YoY after only 5% growth in 2020, according to estimates from Credit Suisse. Based on these numbers, ad-tech companies like Facebook, Pinterest, Snapchat, and Twitter should continue to benefit from growth in digital ad spending in 2021.

For Q1 2021, Snapchat reported first quarter results that exceeded expectations for revenue, earnings per share, and global daily active users. The company also delivered positive Free Cash Flow for the first as a public company.  

Like many stocks that did well in 2020, tougher comps for Pinterest started in March. We anticipate a small deceleration YoY due to tougher comps, with strong international growth. Despite usage trends being mixed, if we see an ad rebound, revenue can still climb higher.

For Twitter, we anticipate a solid quarter, but not on the same level as Snapchat and Pinterest due to recent download data. Twitter daily active users are trending up, but downloads struggled in March more than Snapchat and Pinterest, which faced equally difficult comps. We also expect solid results from Facebook due to less impact from privacy changes at Apple than expected and strong spending in digital advertising.

Below we look at Snapchat’s Q1 2021 results and preview Pinterest, Twitter and Facebook. But first, we take a closer look at download and monthly active user trends.

Downloads and MAUs Struggle Against Tougher Comps

Social media downloads were mixed in Q1, with Snapchat and Pinterest showing the strongest download trends YoY.

App downloads yoy by month

Source: David Marlin

Next we look at the top 10 apps in the U.S. in Q1 2021 by download and MAU. Facebook, Instagram, and Facebook Messenger continued to be top apps by download and MAU.

Snapchat appears on top 10 charts for downloads and MAU. The app moved up two spots in downloads with no change for monthly active users. Pinterest and Twitter made it to the bottom of the chart for monthly active users, with Pinterest moving down one spot, indicating less engagement. Twitter saw no change in monthly active users.

Q1 2021: Top Apps in the US by Downloads vs Q4 2020

Q1 2021 top apps in the US by downloads

Q1 2021: Top Apps in the US by MAU  vs Q4 2020

Q1 2021 top apps in the us by MAU

Next we look at the top 10 apps worldwide in Q1 2021 by downloads and MAU. Globally, Facebook, Instagram, and Facebook Messenger continue to be top apps by download and MAU. While Snapchat was a top downloaded app globally, it is down slightly from Q4 2020. Outside of the Facebook family of apps, only Twitter made it onto the list of top global apps by MAU and it was down slightly from last quarter.

Q1 2021: Top Apps Worldwide by Downloads vs Q4 2020

Q1 2021 top apps worldwide by downloads
Q1 2021 top apps worldwide by MAU

Next we take a closer look at Snapchat, which reported April 22 after market.

Snapchat: Active Advertiser Base Doubles

Snapchat executives struck a bullish tone in its Q1 2021 earnings report, noting that engagement trends remained positive as users began socializing in larger groups. The company’s active advertiser base approximately doubled year-over-year in Q1, and traditionally strong categories, such as theatrical films, have started to return.

Revenue increased 66% YoY to $770 million versus $740.89 million consensus. Non-GAAP EPS of $0.00 beat by $.05 and GAAP EPS of $(0.19) beat by $0.01. Global DAUs grew to 280 million, up 22% YoY, versus 274.5 million consensus.

ARPU was $2.74 versus $2.71 consensus. Net loss and Adjusted EBITDA were $(287) million and $(2) million in Q1 2021, compared to $(306) million and $(81) million in the prior year, respectively.

Operating cash flow improved by $131 million to $137 million in Q1 2021, compared to the prior year. The company also achieved its first quarter as a public company of positive free cash flow. Free Cash Flow improved by $131 million year-over-year to reach $126 million.

Common shares outstanding plus shares underlying stock-based awards totaled 1,629 million at March 31, 2021, compared to 1,589 million one year ago.

Looking forward, Q2 2021 revenue is estimated to be between $820 million to $840 million, up 80% to 85% YoY. Adjusted EBITDA is estimated to be between $(20) million and breakeven, compared to $(96) million in Q2 2020. Daily active users are expected to reach 290 million users, up 22% YoY.  

For the full year, the company plans to invest in its ad platform to drive improved relevance and ROI; scale sales and marketing to support global advertising partners; and build innovative ad opportunities, including video and AR.

Nearly 30% of consumers use mobile AR apps, with 59% reporting weekly use, according to a 2021 report by ARtillery Intelligence with Thrive Analytics.

A report from Futurum Research sponsored by SAS puts the number of smartphone owners using AR at more than 50%, with 69% saying they expect to use AR/VR/MR this year to sample products, and 63% saying they would use the technology to visit a remove venue, location, or event this year.

Pinterest: US Growth Slows, International Strength Continues

For Q1 2021, Pinterest is guiding for revenue growth in the low 70% range YoY with non-GAAP operating expenses at a similar level compared to last quarter. The consensus estimate is $473 million in revenue, up 74% YoY, according to YCharts. 

For the full year, executives are expecting positive trends due to investments in new tools like shopping and automation; international expansion; and monetization into Latin America during the first half of the year, according to the last earnings report. Latin America is forecast to see 10.2% YoY growth in digital ad spending this year, after an 18.4% drop last year, according to the report from Dentsu.

Pinterest app downloads were up 26% YoY in February versus 13% YoY in March, according to data from SensorTower, which provides market insights for the global app economy.

In the U.S., downloads were up 5% YoY in February and down 5% YoY in March. Pinterest showed strong international growth, with international downloads up 29% YoY in February and 15% YoY in March.

pinterest worldwide downloads trend

For Q1 2021, Pinterest DAUs were up 14% YoY worldwide and 7% QoQ, according to data from SensorTower.

In the U.S., DAUs were up 6% YoY and down 2% QoQ., while international DAUs were up 17% YoY and 10% QoQ.

twitter worldwide DAU trend

Pinterest announced Wed that the existing partnership with Shopify has been extended to 27 additional countries, including Australia, Brazil, and the U.K. The company also added two new ecommerce features, multifeed support for catalogs and dynamic retargeting, which allows marketers to target individual consumers.

The partnership with Shopify offers merchants a quick way to upload catalogs to Pinterest and turn products into shoppable Product Pins. Pinterest said the number of catalog feed uploads on its platform increased by over 14 times worldwide from March 2020 through March 2021, and 97% of top searches are unbranded, according to Adweek.

In the last earnings report, Pinterest executives warned about potential headwinds from less engagement due to economies reopening. The company also discussed changes in privacy and tracking data, which was a major topic of discussion for all four social media companies during the last earnings reports.

Due to the nature of Pinterest—the company is able to capture first party data on queries, saves, and board creation—Pinterest is less exposed to privacy changes, according to Pinterest CFO Todd Morganfeld.

Twitter Ramps Up Hiring, Expenses

Twitter is guiding for total revenue of $952 million at the midpoint, with GAAP operating income between ($50) million and break even. The consensus estimates for Twitter is $1.026 billion in revenue, up 27% YoY, according to YCharts.

Executives struck a bullish tone in the last earnings report, with plans in 2021 for significant hiring and new features to boost revenue. Executives anticipate growing total costs and expenses 25% or more this year due to hiring in engineering, product, design, and research, and the final buildout of a new data center. Still, Twitter is projecting revenue to grow faster than expenses—based on its assumption that the global pandemic continues to improve and the impact from privacy changes associated with iOS 14 are modest.

Twitter faced more difficult comps in March and downloads were down 14% YoY, versus up 18% in February, according to data from SensorTower. International markets saw a stronger decline, down 15%, compared to the U.S., down 7%.

twitter download trends

During the last earnings call, Twitter guided for 20% YoY growth of monetizable monthly active users for Q1, and no change to the pre-pandemic goal of growing mDAU 20% or more over multiple years. Users who joined Twitter last March when shelter-in-place orders began have stayed with Twitter better than previous groups, according to the call.

In March, Twitter DAUs worldwide were up 28% YoY and up 4% month over month, according to data from SensorTower.

For Q1 2021, Twitter DAUs were up 27% YoY and up 3% QoQ. In the U.S., DAUs 13% YoY and 2% QoQ, with strong international growth of 30% YoY and 3% QoQ.

twitter DAU trend

To prepare for privacy changes associated with iOS 14, the company last quarter released mobile app promotion, which helps advertisers drive engagement on Twitter, and Twitter Click ID, which helps track conversions.

Twitter CFO Ned Segal expressed confidence at the Morgan Stanley Technology, Media, and Telecom Conference March 3 as the company prepares for privacy changes, and noted that much of the data Twitter collects is not tied to a device ID.

This year, Twitter plans to leverage data for better ad targeting, increase revenue from small and medium sized businesses; continue updating MAP; experiment with non-advertising subscription-based revenue, and capture more ad dollars from the multi-billion dollar app advertising industry.

To drive brand recall and favorability, Twitter is also experimenting with branded likes, which should be widely available later this year, according to the company’s Virtual Analyst Day on Feb. 25.

For Facebook, Apple’s IDFA Hurdle Not as Bad as Feared

The consensus estimate for Facebook in Q1 is $23.6 billion in revenue, up 33% YoY.

Facebook struck a cautious tone in its Q4 report. CFO Outlook Commentary warned that the company continues to face significant uncertainty. The business benefitted from two trends that played out during the pandemic: a shift towards online commerce and a shift in consumer demand towards products and away from services, according to the CFO Outlook Commentary.

These trends provided a tailwind to Facebook’s advertising business in the second half of 2020, due to the company’s strength in products and low exposure to services such as travel. A reversal in 2021 of one of both of these trends could be a headwind to advertising growth, according to the commentary.

In January, retail sales were up 5.3%, with every major category of spending seeing gains. In February, retail sales dropped by a seasonally adjusted 3.0% and rebounded 9.8% in March.

Retail sales are expected to continue growing strongly in April and May, according to Kiplinger’s, which said all sales categories are benefitting from the surge and have surpassed pre-pandemic levels, except for restaurants and department stores.

In 2021, sectors that restricted advertising the most due to the pandemic are set for the biggest recovery, with ad spend in travel and transport forecast to grow by nearly 30%, according to the report by Dentsu.

2021 ad spend growth forecasts by industry

Like other winners of the Covid economy, Facebook will face tougher comps in the second half of 2021. However, the company expects total revenue to remain stable or modestly accelerate in the first and second quarters.

“We continue to invest to improve our exposure and travel—sorry, in service areas like travel,” said Facebook CEO Dave Wehner. “But our expectation would be in 2021, we’ll continue to have a similar skew towards products as we’ve had in the past.”

Executives anticipated high opt out rates due to privacy changes from Apple, which attacks Facebook’s core advertising business on iOS. If all personalized ads went away, small businesses would see a 60% cut in website sales, according to the report. 

However, the opt-in rate for the default Apple pop-up was 73%, according to a report by Adikteev, an app reengagement platform, which conducted an experiment with thousands of random users in 10 countries from July 22 to August 5.

For Facebook’s ad auctions, pricing depends on impressions. Impression growth slowed in to 25% in Q4 from 35% in Q3. Executives expect that trend to continue into Q1 2021.

To boost revenue, last year Facebook launched branded content and shopping in Reels, with plans to launch ads. The company also launched a new shopping tab on Instagram in Q4.

Disclaimer: The information contained herein are opinions and not financial advice. I/O Fund owns shares of Snap and Pinterest. In addition, the author, Jessica Ablamsky, owns shares of Pinterest. The content in this article is intended to be used for informational purposes only. The author has not received any compensation from any third party or company discussed in this article. The content is the expressed opinions of the author and is intended for educational and research purposes. Any thesis presented is not a guarantee of any particular stock’s future prices, so please factor this risk into your own analysis. It is very important that you do your own analysis before making any investments based on your personal circumstances. The author is not a licensed professional advisor. Please seek counsel form a licensed professional before acting on any analysis expressed in this article, to see if it is appropriate for your personal situation.

Dislaimer: I/O Fund currently owns shares of Snap and Pinterest. In addition, the author, Jessica Ablamsky, owns shares of Pinterest, has owned options on Pinterest, and may own options on Pinterest again in the future. Jessica Ablamsky has owned shares of Facebook, has owned options on Snapchat in the past, and may purchase shares or own options again in the future. The content in this article is intended to be used for informational purposes only. The author has not received any compensation from any third party or company discussed in this article. The content is the expressed opinions of the author and is intended for educational and research purposes. Any thesis presented is not a guarantee of any particular stock’s future prices, so please factor this risk into your own analysis. It is very important that you do your own analysis before making any investments based on your personal circumstances. The author is not a licensed professional advisor. Please seek counsel form a licensed professional before acting on any analysis expressed in this article, to see if it is appropriate for your personal situation.

Google Cloud Will Not Be Able To Overtake Microsoft Azure

Posted on by io-fund

This article was originally published on Forbes on Dec 3, 2020,11:03pm EST

Google Cloud certainly has the technical chops and engineering talent to compete with Microsoft Azure and Amazon’s AWS when it comes to cloud infrastructure, edge computing – and especially inferencing/training for machine learning models. However, Google may lack focus due to Search and YouTube being the main revenue drivers. This is seen from the company’s inability to ignite revenue growth in the cloud segment during a year when digital transformation has been accelerated by up to six years due to work-from-home orders.

In this analysis, we discuss why Google (Alphabet) may have missed a critical window this year for the infrastructure piece. We also analyze how Microsoft directed all of its efforts to successfully close the wide lead by AWS. Lastly, we look at how all three companies will bring the battle to the edge in an effort to maintain market share in this secular and fiercely competitive category.

Cloud IaaS Overview:

The three leading hyperscalers in the United States have diverse origins. Amazon found itself serendipitously holding server space year-round that it could rent out and was first to market by a wide lead. Amazon continues to release customization tools and cloud services for developers at a fast clip and this past week was no exception.  

Microsoft’s roots in enterprise created a direct path to upsell on-premise and become the leader in hybrid. The majority of the Fortune 500 is on Azure as they want seamless security and APIs regardless of the environment.

Google is one of the largest cloud customers in the world due to its search engine and mass-scale consumer apps, and therefore, is often first to create cloud services and architectures internally that later lead to widespread adoption, such as Kubernetes. Machine learning is another piece where Google was one of the first to require ML inference for mass-scale models.

Despite all three having very talented teams of engineers and various areas of strength, we see AWS maintain its lead and Microsoft Azure firmly hold the second-place spot. Keep in mind that Azure launched one year after Google Cloud yet has 3X the market share and is growing at a higher percentage.

Google cloud vs microsoft

CANALYS

Google Cloud grew two percentage points from 5% to 7% since 2018 while Azure grew four percentage points from 15% to 19% in the same period. In the past year, Google Cloud saw a 1% gain compared to Azure’s 2% gain, according to Canalys.

Azure is under Intelligent Cloud but the company does break down the growth rate which was 48%. Although Google Cloud Is not specifically broken down, the Google Cloud segment grew 45% year-over-year compared to Microsoft Azure up 48% year-over-year.

Amazon Web Services is growing at 29%, which is substantial considering the law of large numbers. In the past two quarters, Google Cloud reported 43% year-over-year growth and 52% in the quarter before that. Microsoft has seen a slightly less deceleration from 51% and this is down from the 80%-range almost two years ago.

The key thing here is that when Microsoft held the percentage of market share that GCP currently holds, Azure was growing in the 80-90% range. This is the range we should be seeing from Google Cloud if the company expects to catch up to Azure.

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In 2020, the term “digital transformation” has become a buzzword with cloud companies seeing up to six years of acceleration. Nvidia is a bellwether for this with triple-digit growth in the data center segment in both Q2 and Q3. Despite this catalyst, Google has lagged the category in Q2 and Q3 in terms of both growth and percentage share of market. If there were any year that Google Cloud could pull ahead, it should have been this year.

Alphabet has emphasized that GCP is a priority and the company will be “aggressively investing” in the necessary capex. However, the window of opportunity was wide open this year and aggressive investments would ideally have been allocated during the years of 2017-2018 to stave off Azure’s high-growth years with 80-90%.

Google is Capable but Lacks Focus

There is no argument that Alphabet is an innovator within cloud and a leader in its own right. Across public, private and hybrid cloud, containers are used by 84% of companies and 78% of those are managed on Kubernetes – which has risen in popularity along with cloud-native apps, microservices architectures and an increase in APIs. Kubernetes was first created by Google engineers as the company ran everything in containers internally and this was powered by an internal platform called Borg which generated up to 2 billion container deployments a week. This led to automated orchestration rather than manual and also forced a new architecture away from monolithic as server-side changes were required.

Kubernetes also helps with scaling as it allows for scaling of the container that needs more resources instead of the entire application. Microservices dates back to Unix, while Kubernetes, the automation piece around containers, is what Google engineers invented before releasing it to the Cloud Native Foundation for widespread adoption.

Just as Google was one of the first to need automated orchestration for containerization of cloud-native apps, the company was also one of the first to require low-power machine learning workloads. The compute intensive workloads were running on Nvidia’s GPUs for both training and inferencing until Google made their own processing unit called Tensorflow (TPUs) to perform the workload at a lower cost and higher performance.

Performance between TPUs and GPUs is often debated depending on the current release (A100 versus fourth-generation TPUs is the current battle). However, the TPU does have an undisputed better performance per watt for power-constrained applications. Notably, some of this comes with the territory of being an ASIC, which is designed to do one specific application very well whereas GPUs can be programmed as a more general-purpose accelerator. In this case, the benchmarks where TPUs compete are object detection, image classification, natural language processing and machine translation – all areas where Google’s product portfolio of Search, YouTube, AI assistants, and Google Maps, for example, excels.

Google Cloud

GOOGLE

Notably, TPUs are used internally at Google to help drive down the costs and capex of its own AI and ML portfolio and they are also available to users of Google’s AI cloud services. For example, eBay adopted TPUs to build a machine learning solution that could recognize millions of product images.

Unless Google releases an internal technology as open-source, it won’t be adopted by the competitors. This is where Nvidia’s agnosticism becomes a positive as it’s universally used by Amazon, Microsoft, Google —- and Alibaba, Baidu, Tencent, IBM and Oracle. Meanwhile, TPUs create vendor lock in which most companies want to avoid in order to get the best capabilities across multiple cloud operators (i.e. multi-cloud). eBay is the exception here as the company needs Google-level object detection and image classification.

In a similar vein of Google being early to the company’s internal requirements, BigQuery is also a superior data warehouse system that competes with Snowflake (I cover Snowflake with an in-depth analysis here). BigQuery has a serverless feature that makes it easier to begin using the data warehouse as the serverless feature removes the need for manual scaling and performance tuning. Dremel is the query engine for BigQuery.

BigQuery has a strong following with nearly twice the number of companies as Snowflake and is growing around 40%. Due to AWS being a first mover and having a large cloud IaaS market share, Redshift has the biggest market presence but growth is nearly flat at 6.5%.

Point being, Google has important areas of strength and first-hand experience – whether it’s in data analytics, machine learning/inference or cloud-native applications at scale. Google’s search engine and other applications are often the first globally to challenge current architectures and inferencing capabilities.

However, as we see in the contrast between Google and Microsoft in the most recent earnings calls, Google has a hard time prioritizing cloud over the bigger revenue drivers. Meanwhile, Microsoft has a no holds barred approach with one, singular focus: Azure.

Q3 Earnings Calls

The most recent earnings calls from both Microsoft and Google could not have carried more contrast. Google focused primarily on search and YouTube while adding towards the last half of the call that GCP is where the majority of their investments and new hires were directed. Notably, one analyst wondered if the capex investments would eat at margins and produce enough returns. 

Microsoft, on the other hand, held an hour-long call that was nearly all-Azure including what the company is doing right now to capture more market share, a laundry list of large enterprises coming on board and strategic partnerships to strengthen its second place standing. The company’s beginning, middle and end was Azure and cloud services.

Here is a preview of how the two opened:

Thanks for joining us today. This quarter, our performance was consistent with the broader online environment. It's also testament to the investment we've made to improve search and deliver a highly relevant experience that people turn to for help in moments big and small. We saw an improvement in advertiser spend across all geographies, and most of verticals, with the world accelerating its transition to online and digital services. In Q3, we also saw strength in Google Cloud, Play and YouTube subscriptions.

This is the third quarter we are reporting earnings during the COVID-19 pandemic. Access to information has never been more important. This year, including this quarter showed how valuable Google's founding Product Search has been to people. And importantly, our products and investments are making a real difference as businesses work [indiscernible] and get back on their feet. Whether it's finding the latest information on COVID-19 cases in their area, which local businesses are open, or what online courses will help them prepare for new jobs, people continue to turn to Google search.

You can now find useful information about offerings like no contact delivery or curbside pickup for 2 million businesses on search and maps. And we have used Google's Duplex AI Technology to make calls to businesses and confirm things like temporary closures. This has enabled us to make 3 million updates to business information globally.

We know that people's expectations for instant perfect search results are high. That's why we continue to invest deeply in AI and other technologies to ensure the most helpful search experience possible. Two weeks ago, we announced a number of search improvements, including our biggest advancement in our spelling systems in over a decade. A new approach to identifying key moments and videos, and one of people's favorites hum to search which will identify a song noticed based on the humming. -Sundar Pichai, Q3 2020 Earnings CallSundar Pichai, Q3 2020 Earnings Call

Compare this to the tone for Microsoft’s earnings call …

We’re off to a strong start in fiscal 2021, driven by the continued strength of our commercial cloud, which surpassed $15 billion in revenue, up 31% year-over-year. The next decade of economic performance for every business will be defined by the speed of their digital transformation. We’re innovating across the full modern tech stack to help customers in every industry improve time to value, increase agility, and reduce costs.

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Now, I’ll highlight examples of our momentum and impact starting with Azure. We’re building Azure as the world’s computer with more data center regions than any other provider, now 66, including new regions in Austria, Brazil, Greece, and Taiwan. We’re expanding our hybrid capabilities so that organizations can seamlessly build, manage, and deploy their applications anywhere. With Arc, customers can extend Azure management and deploy Azure data services on-premise, at the edge, or in multi-cloud environments.

With Azure SQL Edge, we’re bringing SQL data engine to IoT devices for the first time. And with Azure Space, we’re partnering with SpaceX and SES to bring Azure compute to anywhere on the planet.

Leading companies in every industry are taking advantage of this distributed computing fabric to address their biggest challenges. In energy, both BP and Shell rely on our cloud to meet sustainability goals. In consumer goods, PepsiCo will migrate its mission critical SAP workloads to Azure. And with Azure for Operators, we’re expanding our partnership with companies like AT&T and Telstra, bringing the power of the cloud and the edge to their networks. Just last week, Verizon chose Azure to offer private 5G mobile edge computing to their business customers.  -Satya Nadella, Fiscal Q1 2021 Earnings (Calendar Year Q3 2020)Fiscal Q1 2021 Earnings (Calendar Year Q3 2020)

The calls continue in a similar manner with Microsoft making it clear they have their entire weight behind cloud while Google must continue to cater to its largest revenue drivers – search and consumer. The main takeaway we get from the call is that Google is investing in GCP rather than a takeaway of market dominance or growth. Here are a few examples:

As we’ve told you on these calls, given the progress we’re making, and the opportunity for Google Cloud in this growing global market, we continue to invest aggressively to build our go-to-market capabilities, execute against our product roadmap, and extend the global footprint of our infrastructure … And another: An obvious example is Cloud. We do intend to maintain a high level of investment, given the opportunity we see. That includes the ongoing increases in our go-to-market organization, our engineering organization, as well as the investments to support the necessary capex. So, hopefully, that gives you a bit more color there. And, also here … And the point that both Sundar and I have underscored is that we are investing aggressively in Cloud, given the opportunity that we see. And, frankly, the fact that we were later relative to peers, we're encouraged, very encouraged, by the pace of customer wins and the very strong revenue growth in both GCP and Workspace. We do intend to maintain a high level of investment to best position ourselves. And I kind of went through some of those items, the go-to-market team, the engineering team, and capex. And so we describe this as a multi-year path because we do believe we're still early in this journey.

The question remains if aggressively investing will have the same impact after the digital transformation has been accelerated by up to six years. Nobody could have predicted covid and the work-from-orders but we see from the growth rates on large revenue bases that AWS and Azure were better positioned to answer the demand.

Edge Computing: No rest for the weary

The race for cloud IaaS dominance is only beginning and the hyperscalers are not resting on their laurels as they compete for the edge. Major strategic partnerships are being struck with telecom companies to break open new uses cases for decentralized applications and increased connectivity. Google mentioned Nokia in their earnings call while Microsoft mentioned AT&T, Verizon and Telstra. Amazon also has partnerships with Verizon and Vodafone. (For brevity sake, you can assume every telecom company is either partnered or will be partnering with multiple hyperscalers for edge computing).

Here is a breakdown of the buildout and how these strategic partnerships plan to profit from 5G. The result will be new use cases, such as remote surgery, autonomous vehicles, AR/VR and a significant number of internet of things devices that aren’t feasible with 4G and/or with the current centralized cloud IaaS servers.

AWS Wavelength:

Amazon’s edge computing technologies are being rapidly built-out. For example, Wavelength is being embedded in Vodafone’s 5G networks throughout Europe in 2021 after being in beta for two years. This will provide ultra-low latency for application developers enabled by 5G. On Vodafone’s end, they have developed multi-access edge computing (MEC) to fit both 4G and 5G networks to process data and applications at the edge. This lowers processing time from about 50-200 milliseconds to 10 milliseconds. Amazon is also expanding its Local Zones to offer low-latency in metro areas from L.A. to about a dozen cities in 2021.

In order to support its retail business, AWS built out 200 points of presence where serverless processing like Lambda can run. The network latency map will be enhanced by telco partnerships who have about 150 PoPs per telco.

Microsoft Azure with Edge Zones:

Azure has the largest global footprint across the cloud providers. Where AWS has been the long-standing developer preference, Microsoft is the C-suite/enterprise preferred company across the Fortune 500. Microsoft’s goal will be to move compute closer to end users and to offer Azure-hosted compute and storage as a single virtual network with security and routing.

Microsoft excelled at hybrid as a strategy for taking market share (which I also detailed as the investment thesis for my position in Microsoft after the company missed Q3 2018 earnings and prior to winning the JEDI contract). Azure Edge Zones extends the current hybrid network platform to allow distributed applications to work across on-premise, edge data centers both public and private, Azure IaaS both public and private. This allows the same security and APIs to work seamlessly across these hybrid environments. The overarching performance will attempt to combine the range of compute and storage capabilities of Azure with the speeds/low-latency of the edge.

Google Cloud with Global Mobile Edge Cloud (GMEC):

Google is also partnering with telecom companies such as AT&T to deploy Google hardware inside AT&T’s network edge to run AI/ML models and other software for 5G solutions. Similar to AWS and Azure, the goal is to open up new use cases for industries, such as retail, manufacturing and transportation.

Anthos for Telecom is a Kubernetes-orchestrated infrastructure that can be deployed anywhere including an AWS cluster. In this way, the strategy for Google continues to amplify its strengths which is containerized network functions to merge edge and core infrastructure. This helps with decentralized applications and could potentially compete with “network slices” to where AT&T could potentially use local breakouts to offer a cloud service tier in a few years from now.

Conclusion:

We’ve seen Google build some of the best products for developers in terms of automating microservices and container-orchestration with Kubernetes and also ASIC chips (TPUs) that compete with the likes of Nvidia. I’m not betting against Google’s talented engineers by any means, rather I’m simply observing that the infrastructure piece is leaning towards more of a duopoly at this time. Cloud is expensive on a capex level, so if Google doesn’t find its footing, the margins driven by ads could take a hit in the near-term.

Who will lead software and AI applications is impossible to predict (and when) as the main competitors will be hundreds (if not thousands) of startups. With that said, I personally own Amwell because Google is a backer and I think health care is an example of a vertical where Google’s experience with data can deliver a serious competitive edge. To be clear, Alphabet may have an advantage with AI/ML software whereas this analysis is about the infrastructure. Perhaps there will be a catalyst in the future for Google Cloud to take more share but the strategy is not evident at this time.

Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.

Q3 2020 Earnings: Datadog, Roku, Square, The Trade Desk and JFrog

Posted on by io-fund

This article was originally published on Forbes on Nov 12, 2020,09:01pm ESTForbes on Nov 12, 2020,09:01pm EST

Roku

Roku reported Q3 earnings on November 5th. The 73% year-over-year revenue growth the company announced was 23% above consensus expectations. Gross profit rose 81% YoY while gross margin rose 216 basis points in total to 47.6%. 

Roku added 2.9M active accounts in the quarter (+43% YoY). Total streaming hours increased by 0.2 billion hours over the last quarter to 14.8B (+54% YoY), while ARPU grew 20% YoY to $27.

Roku was a beneficiary of the rebound in ad spend, as the company saw Q3 monetized video ad impressions grow 90% YoY vs. 50% YoY growth last quarter. Roku is anticipating that Q4 revenue growth will likely be in the mid-40% range, similar to the growth rate seen in the last few holiday seasons. Per the earnings call, the company is being cautious about holiday spending with this forecasted guidance. 

ROKU shares briefly hit all-time highs immediately following the announcement of these results.

Brands like DraftKings are shifting budgets especially as TV sports have been canceled and delayed. Roku also pointed towards CPG brands as a large driver for ad revenue in the current quarter.

We have got brands like DraftKings, for example, who is a big sports spender, had to shift budgets out of TV as sports were canceled and delayed. Has moved a significant portion of their budget into OTT.

In the earnings call, management felt confident the migration from linear TV would be a long-lasting trend after COVID.

We are not going back to the way it was to be clear. I mean, I think, COVID did — COVID triggered a lasting durable change in how CMOs and marketers are thinking about their TV ad spend. In Q3, we saw a 17% drop in linear viewing, Roku was up 54%, 92% of Roku cord-cutters are very satisfied with their decision to cut the cord and aren't planning to go back.

So I really think this is a one-way transfer function. We don’t go back to the older spending patterns, because the audience isn’t there, marketers need to follow the audience into OTT. And they stay, they stay because of the enhanced capabilities.

Roku also tackled the question of Wal-Mart and Comcast partnering. The CEO reiterated that Roku is the #1 TV operating system and software operating system in the United States and now Canada with a world-class team of software engineers. He also emphasized that Walmart is a large partner with Roku and has carried many Roku OEMs: 

In terms of Walmart, I will just say a few words. I mean, Walmart is a big retailer, a very strong partner of Roku’s. We have a great relationship with them. They sell millions of Roku players a year. They sell millions of Roku TVs for various Roku OEMs, including TCL, Hisense, RCA, Philips, JVC.

We build — we help them build on branded, which is their house brand, Roku TVs, smart TVs, and that’s a business that’s been growing extremely well for them. So, it’s a great partnership and it’s a long-standing partnership, and we have put a lot of work into making sure that it stays strong.

Square

Square announced blowout Q3 results with huge beats on both the top and bottom lines. Non-GAAP EPS of $0.34 beat consensus expectations by $0.18. The company saw revenue grow 140% YoY to $3.03B, beating the consensus estimate by $950M or 46%. 

Gross payment volume of $31.7B was 6% above expectations. In total, Square saw gross profit rise 59% YoY, while Cash App gross profit soared 212% YoY. 

In the quarter, the number of average daily transacting Cash App customers nearly doubled from the same period last year. Square did not provide guidance for Q4, but noted in its shareholder letter that the trends they observed in Q3 remained strong through October.

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Square’s Seller Ecosystem revenue grew 5% YoY as regions began to reopen. More impressive was the growth of Square’s Cash App Ecosystem, which saw an increase of 23% in daily active users and 574% YoY growth in revenue. 

Bitcoin revenue for Square grew 11x last year’s total, but even excluding Bitcoin transactions, Square grew Cash App revenue 174% YoY this quarter. This is an acceleration from the 140% Cash App growth (excluding bitcoin revenue) Square recorded last quarter, and 98% growth previous to that. 

Square is focused on expanding Cash App’s utility beyond peer-to-peer payments, CEO Jack Dorsey remarked in the company’s shareholder letter: “We remain focused on increasing daily utility for our Cash App customers to products beyond peer-to-peer payments, which helps drive higher engagement and monetization.” 

Square’s investments into increasing Cash App engagement continue to pay off as the company’s Cash App Ecosystem displayed an acceleration in growth across the board this quarter. 

Chart: Cash App shows an acceleration in growth across the board this quarter

BETH.TECHNOLOGY

Jack Dorsey noted that Square is positioned to benefit in both segments moving forward:

“We continue to believe that our Seller and Cash App ecosystems are well-positioned to benefit from the acceleration of secular shifts, such as omnichannel commerce, contactless payments, and digital wallets for consumers.” 

The company did not give Q4 guidance due to uncertainties yet did discuss what they have seen so far through Q4. Square's Seller Ecosystem saw a modest acceleration from Q3 in October:

“Seller GPV was up 8% year over year, which improved modestly compared to year-over-year results in the third quarter.” 

Cash App has seen a modest decrease in transaction volume in October, which management attributes to the end of government stimulus programs and unemployment benefits:

“Gross profit growth in October moderated compared to the third quarter, driven by a decrease in transaction volume per active customer. We believe this was partly a result of the end of government stimulus programs and unemployment benefits at the end of July, as stored funds in Cash App have decreased since July.”.

The Trade Desk

The Trade Desk announced Q3 results that easily cleared analysts’ expectations. Revenue grew 32% YoY, beating consensus estimates by 19%. Non-GAAP EPS of $1.27 was a big beat on the consensus bottom-line expectation of $0.45. The company noted that it saw Connected TV grow over 100%, Mobile video spend grow 70% and Audio spend grow 70%. 

Management issued an upbeat outlook for Q4, expecting $289M in revenue at the midpoint vs. expectations of $255.1M. At the midpoint of this estimate, The Trade Desk is expecting roughly 34% YoY revenue growth in Q4. TTD shares traded over $700 for the first time immediately following the announcement of these results. 

Most impressive from TTD’s report was exceeding 100% YoY growth in their Connected TV segment. CEO Jeff Green remarked in the company’s press release that COVID has accelerated advertising innovation across the board:

"So far in 2020, we've seen several years of advertising disruption and innovation compressed into a few months. As a result, advertisers have become more deliberate and data-driven with every advertising dollar." 

In the Q3 earnings call, Green talked more about how companies are adapting data-driven measurement strategies for justifying marketing budgets:

“We recently surveyed more than 200 top advertisers, around 85% of them said they are under new pressure from CFOs to justify marketing spend and to measure against business goals.” 

Despite The Trade Desk’s beat, the company did not report the numbers that Snap or Pinterest did (32% growth versus 50-60% growth). TTD’s stock is trading at a valuation that has been historically very hard to sustain in ad-tech.

Rarely, does ad-tech trade over 20 forward price-to-sales even during high-growth periods. Not only is The Trade Desk well exceeding the mean but is trading roughly 200% higher than peers even though Roku, Pinterest and Snap had a better current quarter and are forecasting stronger forward guidance. 

Charts: The Trade Desk stock trading 2x more expensive than ad-tech peers

The Trade Desk stock trading 2x more expensive than ad-tech peers that reported much higher revenue growth. – YCHARTS

TTD’s forward PE Ratios (not pictured) is also outsized at 168 compared to Facebook’s 30 forward PE Ratio. Facebook’s PE Ratio has never exceeded 119 even during its high-growth quarters of 100%+ growth and/or with low EPS (law of large numbers). 

Facebook’s current P/S has also never exceeded 20 even during its high-growth quarters. 

This is despite The Trade Desk facing headwinds with Apple’s changes to IDFA. Apple extended the iOS update from September to an undetermined time “early next year.”

BETH KINDIG Tweet about Apple's iOS change

On September 3rd, Apple delays IDFA changes until early next year – @BETH_KINDIG

Although the risks are hard to quantify right now, most advertising experts are in agreement this will affect the entire mobile ad industry on iOS. Facebook has stated they would shut down Audience Network as most ad exchanges need some kind of identifier for targeting and attribution. Here is a great write-up from mobile analyst Eric Seufert on how this could affect ad prices. 

The Trade Desk has stated only 10% of its inventory uses the IDFA but has made no clarifications on how it will run mobile attribution and measurement without an identifier, whether that’s Apple’s or their own. There are efforts from a collective federation of ad companies to use encrypted emails, although there is no guarantee would Apple would allow this on iOS and Safari even if the ad industry agrees to pursue this method. ATS requires users to authenticate which is another unproven factor in the work flow.

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Overall, the risk is an unknown and we will get real answers it looks like “early next year.” For The Trade Desk, it’s a risk investors need to be aware of.  Notably, publisher segments can help augment targeting but this will come from the supply-side.

Datadog announced strong Q3 results and an upside outlook that cleared analyst expectations. The company grew revenue 61% YoY to $155M, representing a 7% beat above consensus estimates.  

The company grew customer count by 38% in the quarter versus consensus expectations of 32% and added 92 new customers with over $100K ARR (+52% YoY), slightly above the consensus estimate of 90. 

Datadog

In Q3, Datadog recorded its 13th consecutive quarter with a dollar-based net retention rate exceeding 130%. Operating margin improved to 9% in the quarter versus expectations of 0.6%, while gross margin improved 3% to 79%.  

Q4 guidance was issued for $163M in revenue at the midpoint (+43% YoY) which was 5% above the consensus outlook. Datadog shares initially sold off as much as 14% on these results, but the stock pared its losses to close trade on Wednesday. The stock rebounded Thursday and is now up over 11% off Wednesday’s lows.  

In its Q3 earnings call, Datadog’s CEO Olivier Pomel commented on the recovery in usage trends the company observed after a weak Q2. “Throughout the quarter, usage growth of existing customers was robust which was a return to more normalized levels after slower usage expansion in Q2…the pace of usage growth in Q3 was broadly in line with pre-COVID historical levels.”  

After a period of cloud spend conservation among Datadog’s enterprise customers in Q2, the company added a record amount of ARR in the quarter. The company managed to do so profitably, as operating income, cash flow and FCF all came in above expectations. 

Notably, Datadog’s CAC payback period decreased to ~12 months from ~18 months sequentially despite adding over 400 more customers in Q3 versus Q2.  

The ~12 month payback period recorded in Q3 is more in line with pre-COVID levels, as last quarter is looking more like an outlier given the aforementioned headwinds the company faced in Q2.

Datadog’s platform has proven to be easily adaptable and sticky for enterprise customers migrating to the cloud, as evidenced by the increasing number of existing customers using more Datadog products. CEO Olivier Pomel remarked on this in the company’s earnings call when he said: “our platform strategy continues to resonate and win in the market. As of the end of Q3, 71% of customers are using two or more products, which is up from 50% last year. Approximately 20% of customers are using four or more products which is up from only 7% a year ago.”  

CEO Olivier Pomel also commented on the partnerships Datadog announced in Q3 with Microsoft Azure and Google Cloud Platform, noting that the flow of revenue from these partnerships will not be immediate: “there's not going to be an immediate impact, but we see that as being potentially meaningful contribution in the mid to long-term.” 

The partnerships with Microsoft Azure and Google Cloud Platform that Datadog announced in the quarter, along with the existing alliance with Amazon Web Services, validates the company’s leadership in cloud-native-observability and establishes its collaborative relationship with the world’s top public hyperscalers. Over the long term, Datadog expects that these partnerships will become meaningful sources of revenue growth.  

Looking ahead to Q4, Datadog is confident the rebound in usage trends the company observed in Q3 will continue.  CFO, David Obstler alluded to this expectation in the conference call: “Throughout the quarter, we saw usage growth that was more in line with pre-pandemic historical levels. The trend was broad-based and sustained throughout the quarter. This provides us with confidence that what we experienced in Q2 was a transitory optimization effort that were related to the challenging macro environment.”  

With the normalization of customer usage trends and secular tailwinds related to digital transformation and cloud migration, management continues to believe that Datadog is very well positioned to capture a “large and growing long-term market opportunity.” 

JFrog

JFrog announced earnings for Q3 in its first quarter as a public company. The company grew revenue 40% YoY, beating consensus expectations by 3%. JFrog also announced Non-GAAP EPS of $0.05, beating expectations by 5 cents. 

Gross margins came in at an impressive 83% while FCF margin improved to 25% in Q3. For Q4, JFrog expects $41.4M in revenue at the midpoint vs. consensus of $40.52M. The stock has initially sold off up to 10% on the results, as the 40% revenue growth represents a deceleration from the 46% growth recorded last quarter. Even after today's sell-off, FROG still trades at approximately 30x 2021 revenue, which remains among the highest valuations in the software industry.

Here is what the Analysts ratings for the recent string of IPOs and where JFrog ranks:

Graphs: New IPO Analyst Ratings

 Here is what the Analysts ratings for the recent string of IPOs and where JFrog ranks – BETH.TECHNOLOGY

When factoring in how fast some software names are growing, we see that JFrog still remains relatively expensive. With the deceleration, it’s likely we see an adjustment to JFrog’s valuation over the next quarter.

Growth Adjusted EV/2021 Revenue Chart

Growth Adjusted EV/2021 Revenue – BETH.TECHNOLOGY

We will be covering earnings again next week so consider giving us a follow.

Disclosure: Beth Kindig owns shares of Roku and Datadog, may purchase shares of Square in the near future and and she has owned shares of The Trade Desk and may again in the future. The information contained herein is not financial advice.

Advertising Stocks Face New, Major Challenge With Apple’s iOS 14

Posted on by io-fund

This article was originally published on Forbes on Jul 27, 2020,11:44pm EDTForbes on Jul 27, 2020,11:44pm EDT

This earnings season promises to be a wild ride across the tech sector as initial impact from the coronavirus will be reported while a few outliers will seem impervious. Ad-tech stocks are especially vulnerable to other sectors with Google expected to have its first decline year-over-year in company history. Facebook boycotts that came late in June could affect future quarters. We’ve seen Twitter report 23% lower revenue and entertain new methods of monetization. However, these well-known risks will be rivaled if not exceeded by the effects of the lesser-known announcement from Apple last month in regards to the required opt-in for the ID for Advertisers (IDFA).

The IDFA is a number tied to the device that allows ad exchanges to track user interactions and behavior. The primary function is very similar to cookies in that it helps ad companies store data profiles and preferences for personalized messaging, regardless of which device you are logged into. In addition to targeting, the IDFA also helps with attribution and measurement.

If you’ve never heard of the IDFA or are not aware that a number is assigned to your iOS device to help track you, it’s because this has been opt-out in the past and been hidden inconspicuously in your Settings. In the upcoming release of iOS 14 in September, Apple will make this an opt-in for every single application. This means a message will appear for every application using a mobile device ID asking for permission.

Apple

Pictured above:Apple will require opt-in permission to track for displaying targeted ads, sharing device location, sharing a list of emails, ad IDs or other IDs used to retarget and/or placing a third-party SDK in the app that combines user data from your app with user data to target advertising. See the full list here on Developer.Apple.ComPictured above:Apple will require opt-in permission to track for displaying targeted ads, sharing device location, sharing a list of emails, ad IDs or other IDs used to retarget and/or placing a third-party SDK in the app that combines user data from your app with user data to target advertising. See the full list here on Developer.Apple.Com

Below, I go over the background that led to Apple’s decision and the public companies this might affect. As noted below, this should affect companies who offer mobile targeting, such as Google, Facebook, Twitter/MoPub and The Trade Desk. In the interim, it could also affect any applications that use aggressive growth tactics. This list is harder to identify, but Uber and Lyft, for example, are known for spending heavily on user acquisition to drive installs.

For instance, Snap beat on revenue recently yet some of this beat came from direct response ads, such as TikTok driving user acquisition on mobile. In this case, there will be less information about who is taking an action if Snap users do not opt-in on the warning screen. Twitter, as well, pointed towards direct response ads holding up revenue during the pandemic while brand ads have weakened. Yet again, direct response has a new and very serious obstacle.

The silence on this topic from financial analysts on Twitter’s earnings call when many ad-tech companies including two of the world’s most valuable companies rely on the IDFA for a sizable chunk of revenue is odd to say the least. AppsFlyer places mobile app install spend at $80 billion in 2020 and estimates this will reach $118 billion by 2022. This is compared to the total mobile advertising industry worth $241 billion in 2019 and $368 billion in 2022.

The changes will not take effect until September with most devices running the iOS update by October, so no financial impact will be seen until Q4. However, if brand ad spend remains low from the pandemic, and direct response campaigns will now be blind due to an aggressive move against mobile ad targeting, then investors should expect a significant shift in the ad industry by the latter part of the year.

I first covered this in October for MarketWatch with the article, “Governments can’t stop Google and Facebook but Apple can.” The changes to the IDFA are being done under a privacy guise, however, it could be an attempt for Apple to reclaim valuable revenue streams from its ecosystem as iPhone penetration is maxed out. How this would work is not evident right now but its unlikely that a $118 billion market in iOS app install spend has gone unnoticed.

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Apple and its operating system is the most important governor in the mobile industry with two-thirds of mobile acquisition spend compared to Android’s one-third. If Apple is playing the long-game on reclaiming iOS attribution and measurement to generate revenue, then Google, Facebook, Twitter, Snap and The Trade Desk have plenty to worry about as Apple can undeniably claim this turf. 

Background on Apple’s Stance

Apple rarely markets at tech events outside of its own conferences, such as the Worldwide Developers Conference held annually in June. A very rare exception to this policy was made at CES 2019 in Las Vegas when large billboards hung outside the entrance stating, “What happens on your iPhone, stays on your iPhone.”

This was a nod towards Facebook, who Tim Cook has publicly criticized, with its software development kit “Audience Network” installed in 300,000 applications on iOS and Android combined and has seen nearly 200 billion downloads. Google’s AdMob is even worse with installation in 1.5 million applications and 375 billion downloads. (Now consider that users did not authorize or download this software on purpose!)

BETH KINDIG

Photo from CES 2019: Source Beth KindigBeth Kindig

The advertisement was a bold and clear statement on Apple’s stance. Yet, anyone in ad-tech could tell you that what happens on the iPhone most certainly does not stay on the iPhone. Mobile has become a free-for-all in data collection over the past ten years. The device leaks volumes of information through software development kits (SDKs) installed inside every application. Most applications have 18 SDKs, which extends beyond Facebook and Google to include a mix and match of ad software companies although the most pervasive being Google and Facebook who are inside the far majority due to the depth of their data for cross-targeting.

We’ve seen Congress attempt to understand Facebook’s business model (which is not simply social media – you can view my past coverage here around Cambridge Analytica, the Q2 2018 earnings miss, and why free cash flow isn’t enough), we’ve seen the European Union blast anti-trust fines of up to $5 billion and also enforce the General Data Privacy Regulations for their citizens (you can view my previous coverage on this here). These efforts have proven futile software remains pervasive across applications. The conclusion in my October analysis is that privacy depends on an equal and opposite force, and there is only one who remains advertising-free who can possibly take on this challenge, which is Apple.

The concept of Apple pioneering privacy at the client level is not new. Apple began to restrict tracking on the Safari browser through iterations of Intelligent Tracking Prevention (ITP) from 2017 to 2019. As I covered previously in depth, Apple implemented strict requirements, such as having a relationship with the customer within the last 24 hours to place a cookie, and companies have continued to find loop holes.

Unlike cookies on the web, where there is a tag on the browser, mobile identifiers have much stronger tracking capabilities. Apple’s IDFA enables the following: user tracking, marketing measurement, attribution, ad targeting, ad monetization, programmatic advertising including DSPs, SSPs and exchanges, device graphs, retargeting of individuals and audiences.

What investors may not realize is these advertising cash machines are largely dependent on tracking software for the high CPMS (cost per thousand views) and CPIs (cost per install) they charge because they can track actions on a granular level even days after a mobile user has seen an advertisement. The mobile users are not aware they are being tracked by many companies they do not have a first-party relationship with (but the developer or publisher does). These developers and publishers must now obtain permission. Without permission, the inventory on mobile becomes less valuable.

Mobile applications, such as Spotify, Uber, Lyft, and mobile gaming, for example, are also dependent on the ability to track and identify cohorts for user acquisition. This is one reason we see the top line grow rapidly in ridesharing at the expense of the bottom line; these companies are crunching customer acquisition costs and lifetime value (LTV) across specific demographics and then using lookalike modeling to target the demographics with the best LTV.

The ad exchanges who deliver this are paid a handsome premium. Google and Facebook can clearly deliver this as they sit on mountains of data but there are others who use unique identifiers in a similar purpose to target and track across multiple devices, such as The Trade Desk with a unique identifier that will likely come under this restriction: “Sharing a list of emails, advertising IDs, or other IDs with a third-party advertising network that uses that information to retarget those users in other developers’ apps or to find similar users.”

Twitter/MoPub will also be affected as MoPub’s software is inside over 60,000 apps across both iOS and Android. Snap will be to some degree as direct response is critical to the company’s revenue.

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The opt-in changes to Apple’s IDFA are impossible to quantify but independent mobile analysts, such as Eric Seufert, have called this an apocalypse with opt-in rates likely to hit 0-20% with an article stating that “deterministic, user-level app attribution will cease to exist once [Apple’s] SKADNetwork adoption reaches critical mass.”

Some of this will rely on Google following Apple on opt-in tracking, which did occur in January of this year with the browser restrictions. Notably, iOS sees double the revenue as Android with App Annie reporting $15 billion was spent on iOS in Q1, or $60 billion at an annual revenue run rate, compared to Android’s $8.3 billion in Q1.

More on SKAdNetwork

The new privacy framework from Apple is called the SKADNetwork. Apple’s SKADNetwork API was first introduced in 2018. The concept was to rely on an API to attribute installs rather than the IDFA. Instead, app publishers will receive aggregated, anonymized data from Apple to track the install directly, such as the ad network ID and campaign ID and publisher name.

DEVELOPER.APPLE.COM

Apple’s SKADNetwork API represents a new data flow for measuring ad campaigns. Source:Developer.Apple.comDeveloper.Apple.com

As AdExchanger points out, what’s missing will be impressions, creative, remarketing, in-app events, lookback windows, user lifetime value, ROI, retention [and] cohort analysis. Oren Kaniel, CEO of mobile attribution company AppsFlyer says “advertisers will be practically blind.”

There will not be any personally identifiable information or device IDs passed along because the iOS operating system will send the postback rather than the application. This is important for privacy because specific installs will not be attributed to device IDs or personally identifiable information. This also removes the need for mobile measurement partners (MMPs) for campaign performance as they are now redundant (in their current state) with Apple now the arbiter of analytics. Notably, MMPs may evolve to help advertisers sort the attribution data they are receiving in Apple’s new data flow.

Conclusion:

Apple is requiring users to opt-in on every application for the IDFA under the guise of privacy. In 2018, Tim Cook was referencing Facebook when he said, “We shouldn’t sugarcoat the consequences. This is surveillance and these stockpiles of data serve only to make rich the companies that collect them. This should make us uncomfortable.”

Privacy in this age of “data everywhere” is a valiant mission, yet there could be more to Apple’s decision as the company has built a very cash efficient ecosystem with many companies profiting from the $100 billion+ industry of mobile app installs.

There is clear evidence as to the importance of direct response in this quarter’s earnings calls thus far, yet mention of the IDFA has been absent from analyst questions despite being one of the biggest threats the mobile ad industry has ever faced. There is a major disconnect between the first few earnings calls in ad-tech talking up the strength of direct response ads and how people who work daily in the mobile ad industry view the IDFA being deprecated. John Koetsier, a journalist and consultant for Singular who covers this space extensively, believes this is a “huge problem for a massive industry.”

This is a problem for the ad industry because it goes well beyond personal sentiments and niceties around privacy and slow-moving government regulations and pits tech giant against tech giant in the black box world of ad software, user tracking and engineered loop holes. There is little question who will win as Apple goes up against Google, Facebook and many others. After all, it’s Apple’s device, Apple’s operating system and Apple’s app store. The only question is why this hasn’t happened sooner.

Google And Facebook Stock: Is Weak Ad Demand Priced In?

Posted on by io-fund

This article was originally published on Forbes on Apr 13, 2020,01:14am EDTForbes on Apr 13, 2020,01:14am EDT

Facebook, Google and Twitter have warned that Q1 is going to be lower than originally forecast. Media analysts have also weighed in with a consensus that ad demand will be weakened this year. Meanwhile, little has been provided for future guidance, which will test the belief that the effects of the Coronavirus has been priced in.

There is no doubt that many of these companies will have a comeback. The timing of this relies on many factors, especially consumer spending, which is intricately tied to unemployment. In other words, ad demand will return but the path may be as the fickle the advertisers who fuel the industry.

First, the Good News for AdTech stocks …

Usage across mobile and over-the-top television has been skyrocketing. Facebook reported an increase of 50% in messaging in countries where the coronavirus was hit the hardest. In Italy, there was 70% more time spent across apps. This was reported on March 24th and one can only imagine what the United States’ usage has been over the past few weeks as some of this usage falls into the second quarter. Group calling increased over 1,000% – which is no surprise for anyone work-from-home trends. (I wrote a full length analysis on Zoom Video here).

Pinterest delivered some positive news this week stating first-quarter sales and user growth were better than expected. The company stated first quarter revenue will be between $269 million to $272 million. Monthly active users in Q1 of 365 million to 367 million are well above the consensus of 352.7 million users.

Along with its social media peers, Twitter reported an increase in total monetizable daily active users (mDAU) of 23% year-over-year and an increase of 8% quarter-over-quarter.

Over-the-top media usage has also received a lot of attention from investors and for good reason. With more people spending time indoors, nearly every application has increased its footprint. Total streaming hours were up 24% between March 1st to March 16th from a year ago, according to Comscore, with Roku and Amazon up 16%.

According to a survey from Consumer Technology Association, 26% of American households started using online streaming services for the first time during the coronavirus pandemic. Meanwhile, 48% are watching streaming services more often than before.

Live TV is also benefiting from the surge in usage with viewership up 102% from a year ago across the seven channels surveyed.

Now, the Not-So-Good News for Adtech Stocks …

Typically, an increase in usage is linear with an increase in ad revenue. It makes sense that the bigger the audience, the more ad space (especially on mobile) and the higher the ad rates. In this rare quarantine situation, however, major advertisers have closed for business, are reporting layoffs and cutting costs in unison, leading to lower ad spend despite the increase in eyeballs.

There is simply no frame of reference for the effects a quarantine can have on advertisers. As of now, we only have reports that skyrocketing usage is not correlating to more ad spend.

Twitter has stated first quarter revenue will be down compared to the year-ago quarter after the company pulled guidance. In the press release, the company stated, “the near-term financial impact of this pandemic is rapidly evolving and hard to measure.”

This means Twitter could see a loss of 10-15% of revenue from its previous guidance of $825 to $885 million despite mDAU being up 23%. This is calculated based on the company stating revenue will be down slightly from the year-ago quarter, which was $786 million.

For a frame of reference, Twitter reported 21% growth in mDAU in Q4 which correlated to 11% increase in revenue. This further supports impact for Q1 falling in the the 10-15% range if “revenue is slightly down” year-over-year.

Mark Shmulik of Bernstein raised his price target for Twitter to $29 from $27 while stating he is on the sidelines partly due to concerns about Twitter’s ability to monetize its active user base. According to MarketWatch, Shmulik recently stated “We caution about placing too much stock into engagement as (1) everyone has seen a spike in engagement (2) unclear what happens to engagement levels post-COVID, and (3) it’s valueless if you can’t monetize.”

Facebook did not offer many details in their release other than to state “we don’t monetize many of the services where we’re seeing increased engagement, and we’ve seen a weakening in our ads business in countries taking aggressive actions to reduce the spread of COVID-19.”

According to LightShed partners, 12 of the top 50 advertisers are ailing auto makers; another 11 are quick-serve restaurant chains. This matches channel checks by Needham that showed lower spending in travel, retail, consumer packaged goods and entertainment, which represents 30 to 45% of Facebook’s total revenue.

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MarketWatch recently covered the revised analyst estimates on the outlook for Facebook, including statements from Needham and a variety of analysts. Q1 is being revised from $18.56 billion to $17.99 billion with EPS of $1.95 revised to $1.85 a share, according to FactSet as of April 6.

EMarketer released data showing a decline of $20 billion in ad revenue. As Twitter pointed out, the situation is evolving rapidly and this estimate is already insufficient as the data was collected up until March 6th, prior to San Francisco and New York going into a quarantine. The data also did not take into account the Olympics being postponed until 2021.

Cowen & Company estimates Google and Facebook will see “$44 billion in worldwide ad revenue evaporate.” This reflects a 18% decline in revenue for Google and a decline of 19% for Facebook compared to Cowen’s previous forecast. Cowen believes the ad business will bounce back in 2021. In a trickle-down effect, Cowen predicts Twitter will also see a decline of 18% and Snap a decline of 30%.

If Cowen’s forecasts are correct, this will be the first time that Google and Facebook will report negative revenue year-over-year since the companies were founded in 2001 and 2004, respectively. Google’s annual revenue last year was $160.7 billion with Cowen currently forecasting $127.5 billion this year in revenue. Facebook’s revenue last year was $69.66 billion with Cowen forecasting $67.8 billion for the upcoming year.

Google and Facebook have plenty of cash, yet smaller ad-tech companies may be more exposed to the spiraling effects of losing business rapidly.

Snap has not released a formal statement in regards to guidance but there’s evidence the company is not entirely insulated. In support of Cowen’s estimates, some of Snap’s largest advertisers are exposed to reduced ad spend, such as movie and media brands Disney, Comcast and AT&T, and also consumer brands Coca-Cola and Hershey’s.

Roku is harder to determine as the company generates revenue from ads and also licensing fees and/or commissions from other content apps. Most analysts believe the lower ad demand will not offset the other segments with a forecast of 15% decline this year. Michael Pachter of Wedbush lowered estimates for Roku’s average revenue per user (ARPU) from 30% to 21% in Q1 and from 40% to 26% in Q2. For the rest of the year Pachter sees a recovery with FY20 only decreased from 24% to 20%.

Notably, LightShed pointed out that digital ad spend will see the effects more immediately while television ads will see more of the effects in Q2. This is because advertisers make commitments to buy from big TV networks months in advance.

Conclusion:

In my opinion, the situation is hard to quantify. We are on the brink of earnings reports, where more will be revealed, yet these earnings will show minimal impact as ad spend was likely reduced only at the end of the quarter in March.

Next quarter is where the majority of the effects will be felt. If companies decline to provide forward guidance, which seems to be the trend thus far, the market will have to rely on sell-side analysts for guidance. I think this is a disadvantage as companies have a more sobering outlook.

For instance, JP Morgan is predicting 23% GDP growth in Q3 of this year, yet Apple is rumored to be delaying the 5G iPhone release in September. This information does not line up. Similarly, ad-tech companies must consider that revenue growth and earnings growth will require travel, sports, restaurants and consumer packaged goods returning to their former state of a 10+ year economic boom. In other words, JP Morgan has the liberty to withdraw bold predictions as the situation evolves while tech companies cannot so easily release new information.  

I personally believe we will not see ad spend return to pre-Coronavirus levels until 2021 at the earliest and 2022 at the latest. Many advertisers are under extreme conditions of balancing a lack of demand for their products, furloughed work forces, and will need to hoard cash to sustain the recovery period until demand returns.

As of now, there is an undeniable red flag in ad-tech as usage is not linear to revenue. This has not occurred in the history of any ad company currently only on the market. The next three months will split the market into two camps: those who believe the market has “priced in” the full effects of the Coronavirus and those who believe there is too little information to price and predict the length of the recovery.

No camp is right or wrong, we simply haven’t been here before.

Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.

Ad-Tech: Keep an Eye on Mobile OS Changes

Posted on by io-fund

INTRODUCTION:

The announcement that Facebook is killing off web supply on Audience Network is actually quite important. This is because the story is changing. You can expect a lot of questions on the next earnings call in regards to this announcement.

To be clear, for Facebook, web supply is not as important as mobile supply. Right now only web supply has been affected. This article suggests that mobile supply could be next. If so, then the story will change quite a bit for Facebook — and Twitter. Google is also in this camp, but Google has search and is more protected and diversified. Due to Google’s strength in AI, a pullback would be welcomed. Smaller companies like Criteo will also be affected.

For Facebook and Twitter, if mobile supply is cut off, we could see a lower average revenue per user become the norm across these platforms.

I would never suggest someone sell a winning position, however, if you’re in Twitter or Facebook, then be mindful of any drawdowns between now and January of 2022 for these less diversified ad companies (compared to Google). Twitter is up 20% this year, so feel free to ride that wave, but have a mental stop and understand the difference between a story or product that has changed compared to undulating market sentiment.

If the ad-tech industry changes how mobile supply operates on the back end, funds and institutions will know first. Funds have full-time analysts to track this. I agree with the Pivotal Research analyst who grew bearish after the Chrome browser changes and Apple’s iOS 13 changes … investors are growing complacent because they have seen some strong earnings reports despite data privacy headwinds. That quote from Pivotal matches my understanding of the situation.

We first covered this in the Google 2019 PDF in July. I also covered this for MarketWatch a few months later in October. However, this has taken time to evolve (hence the market’s complacency).

The real tourniquet on data collection is not coming from regulations, rather it’s coming from the browsers and mobile operating systems, which I describe below.

What is Changing: Browsers Now, Mobile OSs Likely to Follow

Although many consider Cambridge Analytica a temporary issue, the advertising industry would say the privacy changes that began with the GDPR, or the General Data Protection Regulations, had serious side effects. These privacy rules were a decade in the making, and were enacted by the European Union about two months after Cambridge Analytica broke. There was quite a bit of speculation by the Wall Street Journal and others that the GDPR would actually make Google and Facebook stronger (which is not true).

The GDPR’s biggest accomplishment was to put in context the issues around tracking people and collecting data across apps or websites where no relationship exists. Having these standards allowed others outside of the EU to follow. 

The main set of regulations that followed the GDPR is the California Consumer Privacy Act (CCPA). The CCPA was put on the 2018 ballot and passed, and is now currently in effect as of January 1st, 2020.

Browsers

Apple has been whittling away at data tracking on the Safari browser since 2017. I covered this in-depth back in July for our premium members.

Apple’s initial release of Intelligent Tracking Prevention had little effect on Google but did have an effect on publishers. Google stated at CES 2019 that publishers were seeing half the CPM value as a result of ITP’s impact (CPMs is a common way to pay for advertising and is based on cost per 1,000 impressions).

Apple then released ITP 2.1 in an attempt to stop Google and Facebook’s tracking methods, and furthered the attempt with ITP 2.2. The subsequent releases shortened the amount of time a cookie could be stored to 24 hours to prevent loopholes unique to Google and Facebook.

As covered in the PDF, there have been rumors for some time that Google planned to follow in Apple’s footsteps. Adweek reported on this in April of 2019. We now have confirmation that Google will be following in Apple’s footsteps by 2022 by eliminating third-party cookie tracking with the Chrome browser.

Mobile Operating Systems

The main takeaway from this write-up is to keep an eye on changes in mobile operating systems. The browsers are not as primed for data collection as the mobile device. The main impact will be at the mobile device level.

The second change was to cut off apps like Facebook Messenger and Whatsapp from using a loop hole that allows them to continue tracking user activity even when the app is closed.

Ad industry professionals are speculating that Audience Network on mobile may not survive future iOS privacy changes. Facebook, Twitter and others may be forced to shut down their ad exchanges on mobile through a slow squeeze. If this happens, we are dealing with an important change in the story for Facebook and Twitter.

Regarding Snap, TTD, Rubicon and Pinterest …

Before I go into more depth on Facebook and Twitter, I want to cover a few of the other stocks we’ve actually initiated coverage on – Snap, TTD, RUBI, and PINS.

Regarding Snap:

These changes are connected to the reason I pulled out of my Snap recommendation. Snap’s big growth potential was based on launching an Audience Network of their own. This was looking less and less likely. Without this, growth for Snap will be slower than what I would need to recommend a real growth opportunity. They’ll probably nudge up in monthly active users quarter-over-quarter but I don’t see a new trajectory like I did from the filter changes in Q2 2019 or from the highly anticipated Audience Network (that is probably now defunct).

Regarding Pinterest:

Facebook has been very restless since the privacy concerns. We saw the company attempt a blockchain project, which I felt strongly would not succeed the week it was announced.

They also attempted a dating offshoot, which is unlikely to convert users from well-established Match/Tinder. Then there was Lasso based off TikTok. They’re also aiming for a WePay feature in Whatsapp. Now they are going after Pinterest with Hobbi.

Just remember, acquisitions are more successful than an upstart for bigger tech companies (Instagram, Whatsapp). The Facebook social platform is a phenomenal success but there is basically no track record of launching something new and converting users for nearly 15 years.

Regarding Pinterest, I wouldn’t over-react to another one of Facebook’s announcements. I would expect there to be many more pivot attempts from them in the future. Pinterest has a strong foundation and is ran by a very solid founder/CEO.

Ideally, the browser and OS changes shift ad dollars away from Facebook – this is a very real possibility. If so, Pinterest’s ad model is well situated for the future of AI and product discoverability.

Quick note on The Trade Desk and Rubicon/Telaria:

There are two reasons to drop cookies or pixels on browsers and/or track app activity through mobile software.

1) The first is for attribution, which allows the advertiser to know an ad was seen or an ad video was completed.

2) The second is a bit more nefarious, which is to actually track your activity and create behavioral profiles for advertisers to target. This more nefarious data collection is the culprit prompting changes across browsers and mobile operating systems.

TTD and Rubicon are not deep in the business of data collection (#2) because they do not have the conflict of interest of also being a large publisher with 2 billion users (Facebook) or 400 million users (Twitter). They are in the business of ad serving and attribution (#1). There are retargeting ad exchanges, like Criteo, who have seen major declines in stock price.

In addition, attribution (#1) will need to be resolved for everyone’s sake because publishers still need to make money. The Apple ecosystem is based on millions of app publishers making money. Online activity – and many websites — are also supported by ads. Attribution is not a privacy concern and it doesn’t lead to privacy issues when done correctly.

In other words, TTD and Rubicon’s core business model is not reliant on data collection because they are not heavy retargeting companies. Therefore, I don’t see the story changing right now for those companies. They do need attribution but the whole ecosystem will need this. I’ll be listening for TTD’s answers to these questions on the earnings call but I expect them to echo something similar to what I’ve described. If they say something else, then I’ll circle back.

Similar to Pinterest, I’m curious to see if the changes will divert ad dollars away from FB and towards TTD and RUBI as the backend changes should level the playing field.

More on Audience Network, MoPub and AdMob …

First and foremost, it’s important to understand that the more data you have, the more your revenue grows exponentially. There is nothing linear about data (or data science or data mining).

Google, Facebook and Twitter were uniquely positioned in the early days of native apps and mobile browsers because they were the first to build and own large audiences.

Due to this positioning, the bright idea occurred to these companies to acquire or build ad exchanges. Basically, they figured out that ad exchanges are able to insert code across a lot of websites and apps, which in turn, pumps a lot of data. 

The ad exchanges are called AdMob (Google), MoPub (Twitter) and Audience Network (Facebook). The purpose of this was to collect data from as many sources as possible to pump their ARPU on the social platforms they own.

Maybe think of Google, Twitter and Facebook’s ad exchanges as the gasoline in a Ferrari. The gas isn’t worth much compared to the vehicle, but in turn, the vehicle doesn’t go very far without the gas. Data fuels the machine. It’s not worth discussing the value of the gas, which in this case, might be $40.

Facebook says Audience Network pulls in about $3 billion. That’s irrelevant because it’s pumping data for higher ARPUs on their own platform. This is why Facebook makes much higher ARPU than other sites.

Twitter’s MoPub also has software inside many apps that Twitter does not own. The purpose is to collect data, that in turn, leads to higher CPMs/ARPU on Twitter because they now have more data and better targeting than the competitors.

To illustrate, when you close your Facebook app, and you open a Bloomberg or Fidelity app, Facebook now knows you’re a stock investor and can send you a Charles Schwab ad. This information is then sold to advertisers on the Facebook feed. The software that tracks your activity outside of Facebook is Audience Network but the revenue is reflected on Facebook’s ARPU.

Facebook’s social feed does not have as much valuable data as you might think. It’s your cross activity that compounds into perfect behavioral profiles. Facebook may know you went to the Bahamas based on your last social media update, but did you fly first class? How often do you check stock trading apps while on vacation – once per week or five times per day? Do dine out or get delivery in your hotel room?

Tracking activity with Audience Network helps them determine if they should show you a Mercedes Benz ad on Facebook, whereas your posts on Facebook are not enough to tell them your income bracket and spending patterns. Or maybe they’ll show you a Grubhub ad if you ordered in.

This is a fairly challenging concept for people outside the ad industry to understand. The Facebook bulls continually revert back to thinking Facebook’s revenue comes only from the Facebook app, Instagram, Whatsapp. They’ll cite Audience Network generates $3 billion, etcetera.

Google is more protected with search and their response was more muted on the recent earnings call. Facebook’s was a bit more cautionary. I’ve included clips below.

RECENT EARNINGS CALLS:

Google had the following to say in the recent earnings call:

  • On page 30 of Alphabet’s most recent annual report, the company reflected slowing growth across “Google Network Members’ properties”

“Our Google Network Members’ properties revenues increased $1,537 million from 2018 to 2019. The growth was primarily driven by strength in both AdManager (included in what was previously referred to as programmatic advertising buying) and AdMob, partially offset by the general strengthening of the U.S. dollar compared to certain foreign currencies.

Our Google Network Members’ properties revenues increased $2,394 million from 2017 to 2018, primarily driven by strength in both AdMob and AdManager, offset by a decline in our traditional AdSense businesses. Additionally, the growth was favorably affected by the general weakening of the U.S. dollar compared to certain foreign currencies. “

Source: ABC.XYZ/InvestorABC.XYZ/Investor

On the earnings call, an analyst from BMO Capital Markets asked about Chrome changes. Sundar PIchai anwered the following:

“And so we are engaged in these issues, and we anticipate and structurally work on them early on. So it’s how we broadly approach these things. And so there’s nothing notable to call out, other than there will be continued changes in these ecosystems, and our ability to anticipate and adapt is key to the years ahead.

Facebook had the following to say in the recent earnings call:

Dave Wehner, on the Q4 2019 Facebook earnings call:

“We expect our year-over-year total reported revenue growth rate in Q1 to decelerate by a low-to-mid single digit percentage point as compared to our Q4 growth rate. Factors driving this deceleration include the maturity of our business, as well as the increasing impact from global privacy regulation and other ad targeting related headwinds. While we have experienced some modest impact from these headwinds to date, the majority of the impact lies in front of us.”

Analyst Brian Nowak of Morgan Stanley asked Wehner to expand on the comments above:

“Yes, we are seeing headwinds in terms of targeting and measurement, but as I noted, the majority that impact lies in front of us. Just as a reminder we utilize signals from user activity on third-party websites and services in order to deliver relevant and effective ads to our users, and in that regard, there are sort three overlying factors that I’d point to, and I spoke to these on prior calls as well.

First the recent regulatory initiatives like GDPR and now CCPA have impacted, and we expect will continue to impact our ability to use such signals.

Secondly mobile operating systems and browser providers, such as Apple and Google, have announced product changes and future plans that will limit our ability to use those signals, and then finally, we’ve made our own product changes that gives users the ability to limit our use of such data signals to improve ads and other experiences, and there I’d point to something like the rollout of Off Facebook Activity controls, and that’s at 100 percent today.

So each of these factors limits our ability to target and measure the effectiveness of ads on our platform and that can negatively impact our advertising revenue growth. Both Mark and Sheryl talked about importance of ad targeting for small businesses, and I think it’s important to note that the regulatory and platform changes will have a disproportionate impact on the ability of small businesses to use ads to grow and thrive.”

Rubicon and Telaria Merger

Posted on by io-fund

On Thursday, The Rubicon Project and Telaria announced plans for an all-stock merger. The combined companies state this will be the largest independent supply-side platform (SSP). Rubicon shareholders will own 52.9% and Rubicon CEO Michael Barret will become CEO of the new company with a stock ticker $RUBI. The deal is expected to close in the first half of 2020.

Aggregate revenue for the combined company grew 32% to $217 million for the year ending September 30, 2019. The combined company will also have $150 million in cash and no debt. Both companies had market caps around $350 million prior to the merger. The merger is expected to reduce costs by $15-$20 million with 600 employees.

The main benefit to this merger is that Rubicon will now be truly omni-channel (i.e. desktop, mobile, connected TV, video, etcetera) without having to build a connected TV platform, which can take two to four years.

In turn, Telaria is now able to attract larger media companies who want to work with fewer partners across various types of inventory. The combined company is a full-service SSP that will require advertisers and publishers to work with fewer vendors.

The company expects Connected TV ads to make up mid-to-high teens as a percentage of business. Previously, Telaria’s CTV ad business accounted for 44% of the most recent quarter’s total revenue.

Strengths and Weaknesses

Strengths

Supply-side is typically the better side of the deal when compared to the demand side.

On a high-level overview, this is because publishers (the supply side) own the content and the data, and therefore, they control the relationship. Advertisers are fickle and will quickly switch who they are working with according to the best pricing at the time.

Please note: there is a full-length report on the differences between SSPs (Telaria/Rubicon) and DSPs (The Trade Desk)  in the Telaria PDF.in the Telaria PDF.

Telaria and The Rubicon Project onboard publishers. This provides a slight advantage to onboarding advertisers. Nearly every major success in advertising is on the publisher side. Facebook and Google own the content and the data. Gaming exceeds Hollywood and music more than 15X on revenue due to owning content and data with free-to-play alone/ad-supported exceeding Hollywood’s revenue alone. The Superbowl charges record-high prices by owning the content and the viewer data. Therefore, having a larger SSP in the Connected TV ad space is intriguing to say the least.

The most important strength and catalyst for the merger is Connected TV ads, of course. There are many statistics provided in the Telaria PDF and Roku/TTD PDF to support my conviction on CTV ads.

Read the Roku/TTD PDF here covering Connected TV ads.Roku/TTD PDF here covering Connected TV ads.

Weaknesses

Rubicon has some weaknesses around growth that are important to discuss. Although revenue was up 27% year-over-year, the revenue was flat at essentially 0% quarter-over-quarter at $37.64 in Q3 compared to $37.87 in Q2 2019. In Q4, Rubicon is guiding for year-over-year growth of 15-16% at $47 million-$48.5 million. The EV/revenue reflects the lackluster growth at 2.17 compared to The Trade Desk’s EV/Revenue of 19 and Telaria at 4.7.

According to the most recent earnings call, the CEO stated, “we got dinged by [new transparency methods] slightly.” Basically, what happened is some app publishers have not converted to the new standards (likely due to development constraints) and this is affecting demand (advertisers are starting to require the new transparency methods). The new transparency methods are app.ads.txt, which reduces app ad fraud by requiring app publishers to provide text files that list the ad networks authorized to sell their inventory.

Another issue affecting Rubicon is supply-path optimization, or sellers.json. In many instances, Rubicon is a reseller rather than the SSP with the direct relationship with the publisher. Advertisers are pushing back on resellers as more middlemen can increase costs in the real-time bidding process and create opportunities for fraud.

With that said, the aggregate company with Telaria and Rubicon combined has year-over-year growth of 32% for Q3 compared to The Trade Desk’s at 38%. It’s the lack of revenue in the most recent quarter and the upcoming quarter for Rubicon that is concerning (not the TTM).

Regarding weaknesses, I can’t stress enough that the advertising market is incredibly tough as there is not much intellectual property to stave off competitors. For SSPs and DSPs, it is a relationship-based business and a pricing war. I would personally not go long on any ad platform (that does not own the content) without a stop in mind. At the very least, a wide stop should be considered.

About Walled Gardens & CCPA

As Telaria CEO Mark Zagorski stated, this is “an opportunity for someone to create really The Trade Desk of the sell-side — a real alternative to those walled gardens.”

The walled gardens he is referring to are Google and Facebook. They provide little transparency to advertisers and publishers. Meanwhile, they lock publishers into their ecosystems, and advertisers with precise data targeting.

These two companies essentially wiped out the ad industry around 2014-2016 and both Rubicon and Telaria come from the wreckage of those years (Telaria’s path was covered in the PDF). This should be behind us now as what Google and Facebook did is increasingly seen as anti-competitive due to leveraging private data as a means of shutting down ad competitors.

One nod towards the end of the anti-competitive behavior was Amazon opening up its Connected TV ad platform. I am fairly confident this was to thwart any future legal issues and is a healthy sign that the days of iron-clad walled gardens may be behind us.

With that said, there will need to be some finesse from ad platforms on the privacy side. California has passed the California Consumer Privacy Act (CCPA) that will take effect very soon on January 1st. The law is a bit vague as to how to define the selling of consumer data, which Facebook is already preparing to fight.

The reason this is applicable to The Trade Desk or Rubicon/Telaria is these companies typically have various tracking code for omni-channel campaigns, such as TTD’s Universal Ad ID. Interesting enough, Telaria’s CTV ad platform could be protected as they are partnered with Nielson for data, an industry staple for nearly 100 years. Nielson typically collects data on viewing habits rather than on private individuals, so Telaria could actually have an edge if privacy laws prevent the tracking of individuals.

The above paragraph is not something to worry about right now, but I will be keeping an eye on it to make our readers aware if the CCPA extends to omni-channel tracking methods.

Conclusion

The ad industry is often messy and convoluted, which we are seeing with Rubicon’s most recent quarter. They’ve made it clear their intention is to compete with The Trade Desk. While TTD is the first mover, this merger can offer better data for targeting purposes due to being a supply-side platform.

Small Caps: Breaking Out

Posted on by io-fund

There are many reasons to have an allocation to small caps in a portfolio. For one, they offer further diversification with a lower correlation to the broad market. However, the primary reason is that, over time, history has shown small caps tend to outperform the more popular large caps. According to Ibbotson Data, this outperformance, on average, is 2.2% per year.

The Set-Up

Ken French, the professor from Dartmouth who compiled the data in the graph above, discovered there is a seasonality for small caps when you average out all of the data we have going back to the 1920s.

From February through December, the average small cap stock tends to underperform. However, from Dec 20 – Jan 31, the average small cap stock tends to outperform by a noticeable amount

This data is showing that over the December 20 -January 31st time frame, the average relative performance of small caps over large caps is about 2.5%. This may not seem like a lot, however, keep in mind this is sourced from 89 years worth of data, which is statistically significant.

Today, we are seeing an important anomaly in the small cap region that we haven’t revisted in about 20 years.

The above chart shows that small caps, in blue, tend to do better during an uptrend, just like Ken French outlined, and also tend towards sharp reversals in downtrends. With more returns, typically comes more volatility. However, today we are witnessing a relative outperformance of large caps that we haven’t seen since the late 90s.

Euphoric emotion disconnected these two markets during the late 90s, while pessimistic emotions disconnected the markets today. The fear of a recession has taken the current market to levels we also haven’t seen since 2008. Mutual Fund/ETF equity outflows are at historic levels, and short interest has run above the historic average. The risk-on trades have been penalized, small caps being one of them.

Today, we are not only entering the season for small caps,but we’re doing so with small caps showing significant under performance relative to the broad market. If the fear of a recession was overblown, then small caps have some catch-up in order to revert to the mean.

To further build the case, the weekly chart above is showing that the RSI is breaking 60. This is a great sign for building momentum for small caps. In a healthy uptrend, we want to see the RSI above 60 and oscillating above 30 – the higher the oscillation, the healthier.

If we zoom in to highlight the last year, the weekly chart above is showing that small caps are starting to show signs of life. They are breaking above the 60 line on the RSI, the MACD is pointing up, and small caps have broken through their downtrend and closed above the resistance we’ve seen this year. Also, it’s worth noting that small caps are less than 10% away from all time highs.

Review of Our Small Caps (TLRA and WIFI)

Fundamental coverage can be found in PDF form by searching for the stock name.

Boingo Wireless (WIFI)

Boingo (WIFI) appears to have bottomed at the 50% retrace, which is ideal for a wave-2 bottom. We have gotten 5-waves off that low, which is also encouraging. It still has some work to do to confirm this uptrend, but so far, the structure is providing us with a 1-2 set-up pointing up. If it is valid, the 3rdwave is typically targeted around the 161.8% of wave-1, which puts us in a much higher region above the blue lines beginning around $13.50 with the potential to climb higher with a breakout.

If you want to go in on WIFI, I’d put a hard stop just under $9.55. Below this level invalidates the set-up and opens the door for more downside before a new uptrend can commence.

Telaria (TLRA)

Since we covered Telaria (TLRA), the stock is up about 12%. However, the structure is more ambiguous than WIFI, which is why I’m suggesting a tighter stop. I am leaning toward the more bullish set-up, which has us tagging the range in the red box above. However, we also have a potential 1-2 set-up pointing down. If TLRA closes below $6, this will invalidate the uptrend and suggest further downside.

 

KEEP IN MIND …

We have been leaning cautiously so far, and are due for a correction. Stocks are stretched as they are, and a correction would be healthy for further gains.

However, with the seasonality of small cap relative strength approaching in December/January, coupled with them breaking out right now, it’s worth acknowledging current set-ups are in place for two of our favorite small cap plays.