Insweb INSW
September 05, 2007 - 9:53am EST by
zach721
2007 2008
Price: 7.10 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 33 P/FCF
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT

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Description

INSW is a highly scalable Internet auto lead generation business in a highly attractive industry. We believe INSW is undervalued by a significant margin based on a number of metrics:

a)       25% of market cap in net cash

b)       trading at 80% of sales,

c)       a deferred tax asset of $17 per share/NOL $34 per share (2.5x and 7x the current EV) (NOL $190MN vs. EV of $25mn)

d)       huge improvement in EBIT of $1.60 per share shift from 2006 to 2007,

e)       an attractive niche business in oligopoly in insurance lead generation business: Netquote, Insureme.com, and Insweb have 85-90% market share and each has been in business over 13 years.

f)         Auto insurance companies spend over $2.5bn a year in acquiring customers and online comparison/lead generation companies are getting a bigger share of this budget.

g)       The management is highly focused and experienced with the top 8 executives all have at least 7 years at the company. The CEO pays himself $1 a month while owning 34% of the equity (total insider ownership 35%).

h)       A strong board that is comprised of former CEO/Chairman of CNA Insurance is on the board. . A board member in August bought at current prices.

i)         We believe INSW has EBITDA power of $1.70+ per share with almost no CAPEX on a $5.30 EV!

j)         From what we have heard private competitor’s valuations are around 3x sales (strictly rumored) but not out of line or surprising, which is about 3x where INSW currently trades.

k)       The company has not been on the road for 7 years (see chart for details), the company is looking to get on the road and start meeting with investors this Fall.

 

We think the downside is 10-15% which would put the business at .67x of sales and 11x depressed EBITDA ’07E and 5.8x ‘08E while we see upside of $16-20 in 2008 which is 2x sls with EBITDA in the $.80-1.30+ per share range with $2+ in net cash and 100% EBITDA growth over ‘07. Public comps such as E-Health trade at 5x sales and 23x ebitda.  We believe that INSW public equity is trading far below what current private market valuations are being priced at from what we have heard

 

Insweb went public with a dream of selling insurance online 8 years ago and seen its market cap drop -97% (adjusting for reverse split) from the peak after losing money for 12 years. Simply put, the market was not there and today it is. Over the last several years the company has materially changed and significantly improved their model by focusing on their competitive advantage and becoming a pure play insurance lead generation business. The results are now showing up in achieving GAAP profitability with significant earnings power (there should be $1.60 yr/yr improvement in EBIT in 2007 vs. 2006 on a $5.30 EV). The company has carved out an attractive niche market in acquiring insurance customers online (1,200,000 in 2006) and selling them off as leads to a) proprietary local agent network (AgentInsider, online auction for leads by zip code) b) NetQuote (private competitor/partner, also sells leads to local agents) c) directly to insurance carriers (AIG, Geico etc). On the competitive front for local agent networks NetQuote (private company owned by Spectrum Private Equity) INSW, and Insureme (private) are #1,#2, #3 players with 85-90% of the market, from there the next closest competitor really falls off the map.  What has clouded the investment thesis behind INSW over the years was Insweb’s unsuccessful attempt to monetize customers (like vertically integrating by running an agency operation) versus being a pure lead generation business (see below transition).  Today the company is in an outstanding position as the industry has matured due to: a) carriers accepting and embracing the Internet channel b) churn is up, the average length of stay at an auto insurance carrier today is approximately 3 years with 65-70mn auto insured’s on the market c) over 60% of consumers use the Internet in gathering information on auto insurance (which is up more than 100% over last 2 years) d) compelling cost savings of $300 for six months by using comparative shopping e) compelling payback period for agents/carriers. The industry is heating up based on consumer adoption, we have heard Insurance.com is coming public shortly to join recent IPO E-Health (EHTH) which currently trades at 5x sales/22x EBITDA.  INSW has a solid carrier and partner base: AIG, Allstate, American Family, Ameriprise, Amica, Cotton State, COUNTRY, Farmers, GEICO, The Hartford, IFA, Insurance.com, Liberty Mutual, Met Life, NetQuote, Response, Tri-state, Unitrin Direct.

 

INSW is on pace for outstanding year over year comparison’s which should really help the company get attention.  In over the last 2 quarter the company has shown a +.51 and +.41 per share EBIT improvement year over year, for the 3Q07 we are looking for a +.45 per share year over year improvement. This highlights the earnings power of this business. Management has been consistent and much more bullish on their outlook “As we look at the second half of the year, we are optimistic regarding our outlook and expect to continue to post year-over-year quarterly revenue growth while maintaining operating profitability for fiscal 2007 and beyond, as previously stated.”

 

Why we are confident in INSW future:

a)     INSW proprietary lead auction site: AgentInsider has grown 250% in agents to over 2800 (out of total agent universe 129,000) today over the last 2 years.  With more additional zip codes being added allows the company to sell each lead at higher prices versus selling to other network at lower prices.

b)     AgentInsider is driving pricing on revenue per auto insurance lead sold from 3q05 (inception date) $3.68 to $4.53 today, a 23% jump by adding 2,000 agents. Agents should continue to ramp at a significant rate as they only have 2% market penetration as of now.

c)     AgentInsider is cheaper than NetQuote on per lead basis $6-9 vs $9-11 so pricing should have ways to go.

d)    The company has no locked in ad contracts all are 1-3 days so if rates change they can adjust without dramatic impact to bottom line. INSW is very strong in acquiring customers as they have spent $100mn in infrastructure to do so.  Over the last 5 years they have built a database of what ads work on which sites on which day and time. The most the company has ever spent in the last 6 years per lead is $3.40 to a low of $1.40.  Currently, they have seen their customer acquisition cost (CAC) stabilize at ~$3.  

e)     Exited high cost money losing agency businesses

f)    NetQuote/Insweb/Insureme have 85-90% of the auto lead generation business for local agents.  We have spoken with nearly every private competitor in the industry and from what we have heard both NetQuote and Insureme have been solidly profitable.  No new scale entrants have come into the market since 1996.

 g)   We have heard from industry contacts that NetQuote is running at 25%+ EBITDA margins, which demonstrates the opportunity INSW has with AgentInsider (obviously no way to verify this, but would not be at all surprised versus what we have seen from INSW and their higher price points and deeper agent network).

 

 

As AgentInsider continues to scale we think the business can generate average revenue per lead of $6 which, in 2008, for example would lead to $1.40 in EBITDA per share. Using a conservative base case of $5.60 average lead sold in 2008 of gets us to .80 in EBITDA. If Auto leads average $6 then the average lead sold should be $6.40 (when you include other leads such as Life) which would translate to $1.80 in EBITDA in 2008. Average revenue per lead in 2006 was $5 and 2007 $5.40. Today INSW has the understanding of what the consumer is looking for and the ability to monetize this interest in ways that did not exist five years ago. Clearly there is tremendous sensitivity in the model for EBITDA power, but the biggest driver is following the successful NetQuote model. NetQuote has built out a very successful platform that commands significantly higher rates than AgentInsider and buys leads from a number of partner/competitors such as Google, Insurance.com, Insweb, Insure.com, and others. Insweb average commission will go up as AgentInsider continues to ramp, simply because more zip codes will be covered and market depth will increase versus selling uncovered geographies to NetQuote. 

 

Value proposition to local insurance agent from NetQuote: shows that agent makes about 100% return on investment

http://www.netquote.com/about/download/RoughNotes.pdf

 

History

Insweb was one of the first internet companies (with Netscape and UUNET), founded back in 1995. Throughout its history, Insweb has been a marketplace of quotes for a wide range of insurance products. However the company has gone through various transformations while seeking the right business model (losing $190+mm in the process). 

 

A key of the thesis is that INSW has shed its bloated agency operation structure and running a much leaner pure lead generation business.  Until recently, INSW would acquire customers through its various online partners (ads, affiliate programs, etc.) and either act as an agent for the various insurance companies (commission-based revenue) or sell the lead to insurance companies (transaction-based revenue).  As a pure play lead generation business customers are still acquired in the same manner however each lead is now sold as per the industry standard 3-4 times to insurance companies and/or to individual agents.  The CAC should remain flat at ~$3.00 and revenues per customer are gradually growing from ~$5.00 in 2006 to ~$5.40 in 2007 (for 1H06 it was $4.88, 1H07 $5.41) which as we mentioned earlier is being driven by AgentInsider.

 

In the meantime corporate expenses have been reduced from ~$16mm to ~$12mm going forward (reduced R&D costs, minimal CAPEX going forward, employee count down 50% to 64 in the LTM with further to go). The lead generation business requires limited head count as demonstrated by revenue per employee stands at $520K versus a year ago $259K. This a business that should generate very high returns on capital going forward.

 

Consequently we believe EBITDA ’07 .40 a share to ’08 $.80-1.30+ a share and revenue will grow from $30mm 2007E to $33mm 2008E (again with no acceleration in leads, only increased revenue per lead, also we give a -0- for new revenue sources management stated will be coming shortly)

 

The timeline of turnaround, laying solid business foundation:

2004 Launch of agent network program with NetQuote (more below) – INSW starts selling leads to local insurance agents, 72% of auto insurance is still bought through local agents

2005 Launch of own local agent network, AgentInsider.  INSW starts selling leads multiple times to local insurance agents.  1,400 agents in network by end of 2005.

3-2006 Selling of Property & Casualty Agency book of business to Brooke Franchise Corp for ~$2mm – INSW exits the auto insurance agency business focusing solely on selling auto insurance leads

4-2007 Winding down of the term life agency with headcount reductions totaling ~27 – INSW exits the life insurance agency business to focus solely on selling life insurance leads

 

AgentInsider is Insweb’s service to sell insurance leads directly to local/independent  agents.  Local agents can buy lead traffic to specific zip codes, hence AgentInsider sells each consumer lead to 2-4 agents.  Local agents join AgentInsider since they view it as an online marketing channel (one they couldn’t reach otherwise) and gives them an effective tool to compete with the big marketing budgets of insurance carriers.  For INSW it is a huge opportunity as 72% of auto insurance is sold through local agents, a market they wouldn’t be able to tap directly otherwise.  As AgentInsider continues to scale this will push average price per sales lead up driven by higher penetration of agents by various zip codes (NetQuote with their 4000+ agent network has higher pricing). Currently if they get a lead without AgentInsider coverage they sell it to NetQuote at a lower rate.

Here is what the company states in 2Q07 10Q:

“We expect revenue per auto consumer to increase throughout 2007, relative to 2006, as we continue to focus on expanding the base of insurance agents purchasing leads through our AgentInsider program.”  

 

Barriers to entry:

From the number of websites offering insurance the barriers to entry might appear low, however INSW has some significant competitive advantages: scale, AgentInsider Platform, relationships with insurance carriers, technology, and marketing expertise/partnerships.  Since INSW is a comparison shopping site, unlike many competitors that are just an online front end for one insurance carrier, it has built longstanding relationships with various insurance carriers.  The infrastructure for live-quotes from these carriers takes up to 2000 man-hours to implement and offers customers some of the best rates around (saving $300 per 6months on average).  INSW has invested over $100mm in developing their technology and the company has stated that going forward their technology expenses will be reduced (in the $3mm+ range, down from $5mm range historically).  AgentInsider, NetQuote and Insureme are the major players with a well developed agent network infrastructure, the main difference being that AgentInsider leads are priced using an auction format while NetQuote/Insureme use a flat fee (once the depth of agents is achieved the auction format should result in better pricing).  Lastly, INSW’s online advertising expertise and partnerships have kept CAC at in the $3 range or below.  From our research competitors spend $3.50 and above to acquire a customer.

 

Management Team

Hussein A. Enan is the founder/CEO and comes from a reinsurance background. He founded one of the largest re-insurance brokers on West coast in the early 1970’s which he sold to EW Blanche in 1993. He has very deep ties into CEO’s of major insurance companies in the US market.  His industry relationships helped secure top carrier partnerships which is obviously a key part of INSW’s platform.  The former Chairman and CEO of CNA Insurance ($12bn market cap) is on the board. Jamie Pickles was recently promoted to COO and has been the force behind AgentInsider.  He seems to be well respected in the industry and is working on some new ways to monetize traffic. 

 

Risks: a) Illiquid small cap stock is the most obvious issue. b) a portion of the NOL’s could be impaired from repurchasing stock definitely not all but some part COULD be impacted.  

 

I wish I was smart enough to have found and written up this idea when it was trading near cash, but I ask myself:

Is a highly scalable Internet business with a decent moat and management on track with a solid strategy worth more than .80x sales (especially given a NOL that is 7x the current EV)? For a company with significant earnings power and has already reached GAAP profitability, $1.60 improvement in EBIT year/year, a growing business that should be trading at 5-7x multiple of 2008 EBITDA. We think the company could easily double to 1.6x sales and 13x EBITDA as the company shows an estimated .45+ a share improvement in EBIT for the 3Q07. I think this stock could be similar to EBIX written up on VIC with a very limited share count and strong scalable underlying business.

 

Disclaimer: This does not constitute a recommendation to buy or sell this stock.  We own shares of the company, and we may buy shares or sell shares at any time without updating the board.

 

Catalysts:

a)       Significant earnings power based on AgentInsider success average revenue per lead +23% over last 20 months. 250% growth on AgentInsider to 2800 since 2005 out of 129,000 auto agents, if penetration continues to increase the company has substantial EBIT power in excess of $2 per share.

b)       The market opportunity and ability to monetize the opportunity was not there in 2000, but is here today with over 60% of users going to the Internet for auto insurance pricing information.

c)       The company has not been on the road for 7 years (see the chart for details), management intends to start telling their story and looking to meet with investors this Fall and into 2008. Management is bullish on their prospects as they have communicated in press releases.

d)       $1.60+ per share improvement per share in year EBIT over 2006 with .40 in ’07 in EBITDA and $.80-1.30+ EBITDA in ’08.

e)       25% market cap in cash, management/board members own 52% and have been buying more at current prices current EV $5.30 per share.

f)         Will not pay taxes for years: NOL $34 per share/Deferred Tax Asset $17 per share (7x and 3x the current EV)

g)       Cheap: .80x ev/sls, highly scalable business revenue per employee $520K, EHTH 5x sls and 23x ebitda.

h)       Attractive industry structure and consumers are now heavily using Internet for buying auto insurance  

i)         Management has found their stride with highly experienced team in both Insurance and Online Model: top 8 employees have all been aboard since 2000.

j)         Highly scaleable model business requires limited head count, they cut 50% of the employees and revenue was up 8%, with huge improvement in profitability.

k)       Attractive business model: no inventory, vast majority of ad space bought in 1-7 day increments, Insurance companies move very slowly and very difficult to secure the 14 carriers they have, the other competitors have been in business similar time periods about 13 years, no new size entrants in the market since the dot.com days.

Catalyst

see above
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