|Shares Out. (in M):||11||P/E||0.0x||0.0x|
|Market Cap (in $M):||101||P/FCF||0.0x||0.0x|
|Net Debt (in $M):||-94||EBIT||0||0|
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Here is a summary of the moving pieces and resulting cash balance ($mm):
|Restricted Cash||11.1||~3/4 of restricted cash balance ($14.9m) becomes unrestricted|
|Positive Loan Spread||16.0||Delta b/t loans held for sale and TREE's warehouse line of credit (not risk adjusted)|
|DFS Purchase||37.9||DFS purchase ($55-10 on first anniversary, $8m already paid)|
|Loan Loss Reserve Escrow||(20.0)||Loan loss to be escrowed per DFS Asset Purchase Agreement|
|HLC Subsidiary Expenses||(25.0)||Negative working capital,, hedge on secondary, wind-down obligations, deal cost, etc.|
|Other||(2.0)||Other litigation, misc.|
|Anniversary Payment||10.0||Consulting fee flowing through income statement. Would be taxable if not for NOLs|
|Cash Generation||7.0||2Q12 cash generation from LTL prior to deal close|
|Total Cash (Post LTL)||94.0|
|Per Share||8.23||11.4m shares outstanding|
|% of Current Price||92.8%|
Incidentally, TREE filed a pro forma 31-March balance sheet showing $114m of cash and $26m net liabilities for discontinued ops. Add $7m of cash flow generated in 2Q12 and we arrive at our total cash number before the $10m anniversary payment. While there will be some liabilities to wind down over the course of several quarters, we believe that TREE's 2Q12 10-Q will reveal a substantial cash position.
WHAT DOES THE BUSINESS LOOK LIKE FOLLOWING THE SALE OF LTL?
"When Banks Compete, You Win." That is the highly recognizable slogan behind the popular website, lendingtree.com. The popularity of lendingtree.com, coupled with high quality long-form leads, allows TREE to offer some of the most valuable mortgage leads in the industry at premium prices. We think it would cost a newcomer multiples of TREE's current enterprise value, and at least of couple of years, to build a similar level of brand awareness. An investor in TREE today is getting the web property, and $8-12m of EBITDA, for $6m.
With the sale of LTL, TREE is transitioning back to a pure play comparison shopping lead-generation business. Over the past several quarters, TREE has been reporting "Adjusted Exchanges" figures to give investors an idea of what the business would look like in the absence of LTL. This is important due to the fact that a portion of go-forward lead-gen revenue will be for leads that would otherwise have been given to LTL with intercompany eliminations. Given the quality of lendingtree.com's leads, we think lenders would scale back other lead sources which would drive significant efficiencies on TREE's marketing spend. Diligence suggests that some lenders will "take all they can get" from lendingtree.com. Over the past several months TREE has aparently been working on taking market share. We're hearing that, for example, a lender that was buying 500 leads per day from TREE is being offered 750 per day; the 250 delta offered at the competitor's price to shut them off.
Below is a summary of "Adjusted Exchanges" figures from the company.
|Adjusted Exchanges Figures||1Q||2Q||3Q||4Q||2011||1Q|
|Total Exchanges Revenue||23.9||24.7||19.5||18.0||86.1||24.1|
|Exchange Marketing Expense||20.0||18.4||10.8||8.5||57.7||12.8|
Other Marketing Expense
|Total S&M Expense||20.9||19.8||11.8||9.7||62.2||14.3|
|Variable Marketing Margin||3.9||6.3||8.7||9.5||28.4||11.3|
As the FED has signaled a low interest rate environment for at least the next couple of years, management felt comfortable in guiding for adjusted exchanges EBITDA this year in the $8-12m range. EV/EBITDA is 0.6x at the mid-point.
WHAT DOES TREE LOOK LIKE LONGER TERM, AND WHAT'S IT WORTH?
We believe TREE will transition itself into a growing media company in the next 2-3 quarters. On the mortgage side, TREE has recently hired high-level sales executives from bankrate.com and leadpoint.com and has closed some large lenders. TREE has also begun laying bets in home services, education, autos, legal, insurance, etc. We believe they can achieve brand and marketing synergies in these and other verticals (degreetree.com, lendingtreeautos.com, etc.)
An additional opportunity is in rate tables, such as those employed by Bankrate (RATE) and Zillow (Z), that allow a consumer to shop a list of offers and then click on a link or call a phone number (pay per click / pay per call). TREE has both long- and short-form offerings (input personally identifiable information) but they don't have a rate table offering. We believe they'll roll out a table by the end of this year and that we'll hear more about this on TREE's upcoming quarterly results conference call. We know that TREE has recently hired the rate table architect from build.com - at this point we think they'll either build, buy or partner on an offering in the near-term. Rate tables expand the market for TREE and are easier to operate at scale.
RATE and Z both command astronomical multiples - EV/S of 4.5x and 10.5x, respectively. We view both of these businesses as deserving of healthy multiples. While we don't take a view on whether either one is currently fairly valued, we also don't ascribe these multiples to TREE for our ultimate target price; rather, we use them for reference purposes. RATE has quality traffic through decades of editorial content, a syndication network, and rate tables. Z effectively has no marketing costs; they've built a site that generates traffic through SEO and mobile and are not dependent on third parties. We think TREE can claw their way to a healthy third place. Assigning TREE just 1x EV/S results in a $16 share price using our pro forma cash balance and assuming no growth. A 2x EV/S multiple gets us to $24 per share. A pure play, growing internet media business trading for 1-2x EV/S if fair, in our opinion.
Even more interesting, from a valuation perspective, is the takeout scenario. TREE's "variable marketing margin," (VMM) or the amount of money they make on the lead gen business before corporate overhead, is $30-40m per annum. We think that the vast majority of corporate overhead (executive team, sales force, legal, public company costs, etc.) can be fully eliminated. CEO Doug Lebda has conceded that TREE could be run on someone else's platform with just a handful of people. Here, we contemplate a scenario in which RATE realizes the current bargain and makes a bid for TREE:
|Bankrate's EBITDA Multiple||15.0||15.0|
|TREE Annual VMM||30.0||40.0|
|Implied Enterprise Value||450.0||600.0|
|TREE's Value to Bankrate||544.0||694.0|
|Value Per Share||$47.66||$60.80|
A takeout scenario notwithstanding, we think $18 is a reasonable number to put on TREE at this stage of the company's progress. $18 represents 3.7x EV/VMM, 1.2x EV/S, and 11.1x EV/EBITDA using our adjusted cash number. This target also assumes no sales growth and no value for the $51m NOL ($32m tax adjusted).
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