appfolio APPF S
June 12, 2020 - 9:34am EST by
2020 2021
Price: 156.00 EPS .25 0.50
Shares Out. (in M): 36 P/E 650 325
Market Cap (in $M): 5,650 P/FCF NM NM
Net Debt (in $M): 50 EBIT 20 40
TEV (in $M): 5,700 TEV/EBIT 300 150
Borrow Cost: General Collateral

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Appfolio (APPF) makes property management software for small real estate managers.  They have roughly 15,000 customers and it is my contention that their growth trajectory is challenged.  This is problematic given the valuation.


Total apartment rental units: 44m

Of which:

  Top 50 multifamily owners: 3m

  Other multifamily: 16m

  Single family institutional: 8m

  Single family, single owner: 17m


I submit that 16m + 8m are addressable.  This number hasn’t changed for at least 5 years, if you compare RP’s marketing decks.  The largest managers would never use this software, and the single owner single-family market does not need software.  If you were renting out a starter home, would you need a software package to do so (at over $3k a year)?


The market seems to already be fully penetrated:


  RP/Buildium has 16.5m units 

  APPF has 5m units

  Yardi has 2-3m units


More generally, which mid-sized property manager is still using Excel spreadsheets to manage their business?  How many of those people remain?


The software is fine, and in many ways comparable to the competitors.  It is not as fully-featured as RP, and competes head-to-head with Buildium and Yardi.  I have no problem with the software itself.


SInce RP bought Buildium last year, the competitive situation is about to get more challenging.  RP will now use Buildium to aggressively move down-market.  For better or for worse, these programs are sticky (who wants to change customer-facing software?) but that means that the two companies are going after the same, small pool of potential customers.  RP commentary is suggestive:


As a quick update on our acquisition integration efforts, we've been working feverishly to unlock RealPage ancillary services that can be offered to the Buildium customer base. As you may recall, Buildium was acquired by RealPage in December of last year and expanded our market share in the underpenetrated SMB segment of the market. Since the acquisition, we've integrated SimpleBills, our utility billing solution for single-family housing, and have launched this differentiated service in both the Propertyware and Buildium installed base.

In addition, we will be filling a hole in the Buildium product, offering LeaseLabs websites to Buildium customers. We're vastly expanding the insurance offering available to Buildium clients, and we'll soon be offering a low end version of our IMS Platform for Buildium clients who need systems to manage investor reporting. As a reminder, we acquired Buildium to expand our presence in the underpenetrated SMB market.

Buildium revenue jumped a whopping 35% in the first quarter, and our total SMB annual contract value is now nearly $385 million. We believe RealPage is the largest provider of SaaS software for the SMB rental housing market. We intend to up our investment in SMB, and we'll be announcing new innovation over the next few months to further differentiate ourselves. Most important, RealPage will be releasing APIs into our SMB platform so that third parties can integrate with us. Both Yardi Breeze and AppFolio are closed platforms, which, in our view, stifles industry innovation. At RealPage, we believe platforms should be open so that third-party innovators can complement our platform.


When RP acquired Buildium last year, they stated that it was a good UI that needed more functionality/modules to be truly competitive with APPF.  RP has added all that in just over 6 months, and now they are competing “for reals”.  Buildium grew at 35% while APPF grew around 20%, so they are clearly losing share.  More concerning is that APPF has added fewer new customers each year on an increasing base, showing the law of large numbers-- comparing q1 customer counts, they added 1,300 in 2020, 1,400 in 2019, 1,500 in 2018, and 1,700 in 2017.  This despite ramping up marketing spend dramatically, leading to greatly-reduced marketing efficiency.


So, now to valuation.  APPF trades on a revenue multiple of around 20x.  However, not all revenues are created equal.  Only $92m of their LTM revenue is true SAAS software.  $165m is “value-added services”.  Most of this is payment processing.  Now, this is not a bad business, but payment processors tend to get ~ 10x revenue multiples (visa, mastercard, square, etc.)  So, if we put 10x on the $165, this implies a 38x multiple on the core software revenue.  This strikes me as too high for what appears to be a business about to hit a wall.


Stock should trade at 10x overall revenues once it goes ex-growth, which drops it around 50% from current levels.  I think the average sell-sider's target is closer to this than the current absurd price.


A few other thoughts.  I don’t think many apartment owners are rushing out to upgrade their software with covid, so this will be an additional headwind.  Also, non-payment of rent will hurt their processing business.  There are some small accounting issues:  prepaid expenses, capitalized software, changed amortization schedules, 


Finally, APPF is in the sights of the FTC and DOJ for allowing landlords to discriminate against certain tenants with their screening services.  That seems to be problematic in this day and age, maybe they make an example out of APPF.


I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.


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