|Shares Out. (in M):||110||P/E||50||17|
|Market Cap (in $M):||1,320||P/FCF||0||0|
|Net Debt (in $M):||-160||EBIT||35||85|
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Opera (OPRA) presents an attractive long-term opportunity despite some recent appreciation and strategy tilt that likely shifts the story a bit more towards growth than it had been previously. After IPO’ing at $12 in July 2018, the company struggled with the bad market last year and has only regained this level as of today. Note the company has a smaller float that may present considerations for some investors.
The company’s business consists of a popular internet browser with over 220 mm smartphone MAUs and 65 mm PC MAUs. The browser is particularly popular in Europe, Africa, and parts of emerging Asia (e.g. Indonesia) and has a solid reputation for innovation (tabbed browsing early on, built-in VPN, ad-blocking tech, etc.). While the browser business provides a high margin, cash flow engine, the company is rapidly expanding into newsfeed products mostly focused on the African continent and emerging Asia. The company also has a small but rapidly growing microlending business called Okash in Africa.
Two important revenue sources are Google and Yandex who each pay OPRA for the right to be the Opera browser’s underlying search engine. When a user types a search query into an Opera browser URL, Google earns ad revenue and in turn pays Opera ‘search’ revenue. Notably, Google was 39% of revenue in 2018, down from 43% in 2017. Additionally, the Opera browser has various shortcut buttons which a user can quickly hit and go to online destinations such as booking.com. This, along with other advertising inventory on landing pages etc. comprises (browser-related) advertising revenue. While currently smaller, the company also has an ecommerce revenue stream.
Now, beyond Opera’a original (and still growing) browser business, “Opera news” is the newest and most exciting monetization lever and a key part of the long-term investment case. The product is similar to Toutiao’s newsfeed which has gained rapid popularity in China and is algorithmically based on previous articles read or sites visited. Opera news now has over 150 mm MAU’s at 1Q’19 (up from 134 mm at 4Q’18 and just 72 mm in 4Q’17 evidencing the rapid growth). The focus for this product is sub Saharan Africa, S/SE Asia, and EMEA thirdly. It’s dominant in Nigeria, and the product is only nascently monetized through advertising with plans to increase monetization intensity dramatically.
2019 guide and discussion
The company first issued 2019 revenue guidance on their 4q call and then revised that guidance quite notably on the 1Q’19 call last week. At the risk of being tedious, I’ll go over the original guidance and the revision because I think it will help the reader understand the strategic shift that management is pursuing as well as the nature of the company’s profitability.
From the 4Q call, management called for 2019..
· “baseline” revenue to grow 28-34% to 220-230 mm, with some opportunity for upside based on growth initiatives. The company discussed feeling “compelled to aggressively” pursue some new growth opportunities which weighed on ebitda.
o Specifically on the various revenue streams, management discussed ‘search’ as still having mid-teens potential growth, advertising low-20’s, tech licensing revenue stream may decline / go away, ecomm will be stable at 4q levels, and the Okash business which first contributed 1.9 mm revenue in 4Q was expected to hit low-20’s mm of revenue.
· Adj. Ebitda of 75-82 mm, or a 34-36% margin (a step down from 38% in FY’18)
o Lower margin ecommerce revenue and less high margin licensing revenue in addition to strategic cost base additions was responsible for the YoY margin contraction;
o Ebitda was specifically reduced by $10 mm pertaining to a “strategic increase in cost base” to build out further localization for Opera news, adding browser features, and launching Okash more broadly in Africa.
· The company has previously discussed a longer term target ebitda margin of 45-55% which adds some context to the 34-36% margin above. The nature and scale of the browser business suggests high margins are achievable.
Fast forward to the 1Q call, management provided several updates including the following..
· The Okash business, which essentially only started via acquisition in 4Q’18, was already at a >$25 mm run-rate, compared to the low-20’s mm of revenue previously expected for the full year (note this business has lower gross margins than the remaining business and bears credit risk which has been stable thus far in the company’s limited history).
· Revenue guidance for FY’19 was increased to 230-240 mm, or +36% YoY (5 ppts faster than previous)
· Adjusted ebitda was taken down quite notably to $30 – 45 mm which includes $35 – 40 mm of incremental marketing investments over the course of 2019 (on top of the 10 mm strategic increase suggested in the first guidance update). Adj. ebitda margin (which again was 38% in 2018) is now expected to be just 16% as implied by the midpoint of the new 2019 guidance.
So, in summary, the company – based on its user growth traction and the ultimate market opportunity - decided to make some pretty significant investments for growth. Given the decline in ebitda associated with this growth, and the thus-far positive market response, which has increased valuation, the investment case naturally becomes more reliant on (a) the growth opportunities panning out and / or (b) that the company can turn the spigot back to profitability should the growth not fully materialize (in which case I can still envision a value investment case). At this point, I’d note the company is owner-operated by Yahui Zhou, a notable Chinese entrepreneur and his firm Beijing Kunlun Tech. While I touch more on this ownership structure in the risks section, my point in mentioning the incentivized ownership structure here is that I believe the company has made a rational decision to more aggressively pursue growth as it’s the best path towards maximizing long term profitability, rather than due to any non-economic growth-at-any-cost mentality. Looking back at 4Q’18, I’d observe that op-ex actually declined YoY just to offer one example of the company’s discipline and ability to control cost. After buying Opera - still a Norway headquartered company - engineering was relocated from Oslo to China (which may bring about some risk, but is certainly beneficial from cost control). The company spoke in some depth about the investments they plan to make this year on the 1Q call to which I refer the reader for more detail. Interestingly, the CFO did indicate that their investment plans to monetize Opera news are designed to achieve 10x rates of current monetization (monetization today is still very early which perhaps adds a grain of salt to the comment but I think the point here is that there is a huge opportunity in front of the company). Returning to the MAU figures, this company has massive scale not just in the traditional browser but also the newsfeed product, which was accumulated over a short period of time and lends credibility to the company’s potential. While ARPU in Africa + developing Asia may be expected to be quite low for some time into the future, these are likely the global regions with highest GDP growth potential for an extended period of time.
Summary investment attributes
To reiterate some of the investment highlights as I see them:
· Quality browser business with long operating history
· High insider ownership (also adds risk given China angle).
· Leader in newsfeed in EM
· Early efforts in other apps, and financial services showing promise
· Further margin harvest potential in browser, investment in improved ad-tech will lead to higher monetization
· Minimal CapEx (<$7 mm in FY 2018)
· MAU-to-market cap stats are very low. While not guaranteeing success, the business has rare levels of mass engagement and therefore this is a strategically attractive business particularly given the mix of mature markets cash flow + high growth EM opportunity + high consumer touchpoints and time-spent.
· The company now trades at >30x current year ebitda and around 5x revenue. Not quite in the bargain bin as the market has thus far responded quite enthusiastically to the strategic shift towards growth in the 1q release (shares advancing from $9.3 to 12 over the past week) which obviously increases sensitivity towards execution of the growth opportunity. However, at risk of committing heresy, valuation is more modest at 14x as measured against the top of the original 2019 guidance and I think this level of profitability remains very much intact from the core business which provides me some comfort for 2020+ as the company pursues the growth opportunity.
There are several starting with the Google, yandex exposure. Mitigant: in general, I don’t think Google sees much benefit from disrupting this relationship or unduly applying pressure on Opera given Opera’s overall small size relative to google and the already substantial anticompetitive regulatory pressure on Google. Additionally, the two companies have had a close relationship for over a decade. That said, anything can happen and this is a high-revenue concentration company which may affect the trading multiple particularly in bad times.
Share loss. Despite growing revenue in the core browser business, Opera has lost some ground to the majors (Chrome, safari) in certain key EM (Nigeria / Kenya) as those companies push their default browsers across their ecosystems.
Slowdown in core browser revenue growth. While the company did speak optimistically about being able to accelerate browser growth even in mature markets such as Germany, I was somewhat displeased with the 1Q growth rate in search (5% constant currency) and advertising which is still mainly browser (12% constant currency growth in the quarter). I don’t wish to make too much of one quarter but the outside risk here would be that growth in the core, established business is slowing which necessitates the increased investment in newsfeed and other areas.
Currency risk. FX negatively impacted revenue growth in 1Q as called out in the release.
Microlending: taking credit risk. Mitigant: has been self-funding and profitable thus far, loan amounts are small, with manageable credit.
Ownership: Beijing Kunlun is the largest owner and controls the company. Kunlun has at times been rumored to be seeking liquidity across some other investments although I don’t think this applies to OPRA. Additionally, the press has widely reported that Kunlun is being effectively forced by the U.S. to sell dating app Grindr due to CFIUS concerns over data privacy particularly as it relates to Kunlun being a Chinese company (i.e., national security concerns). Notably Grindr didn’t seek CFIUS approval before selling to Kunlun whereas Opera did undergo a CFIUS review which seemingly mitigates the risk for any unforseen privacy / regulatory issues. Additionally, as a Euro domiciled company, OPRA has a history of complying with strict EU data privacy standards.
Monetization of newsfeed. Additional fast growth from the microfinance efforts, all contributing to sustained high growth and simultaneous diversification of revenue.
Investor familiarity, outreach efforts (just hired IR person on March 11).
Europe regulators have mandated google better advise users they have a choice as to what browser to use (this was part of a ruling against droid’s tying of the chrome browser to the droid operating system). This could benefit Opera which has strong positioning although I don’t have high conviction this will be material.
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