Zeta Global Stock: No Acquisition For Me (NYSE:ZETA)

When Zeta Global Holdings Corp. (NYSE:ZETA) went public in the summer of last year, I concluded that the company was acquiring customers, not investors. The company went public in the summer of last year in a difficult public offering, as shares fell despite pricing being set at the lower end of the range.

That, in itself, created a compelling setup, as valuation multiples looked quite reasonable based on the sales multiple and growth rates, as well as the observation that profitability was achieved already. That made me wonder if the selloff was a bit overdone.

The Thesis

Zeta’s solutions enable consumer brands to acquire customers at lower costs than they can do otherwise. Zeta aims to identify consumers and try to establish their intent in a privacy-compliant way, after which personalized marketing efforts can be applied to these (prospective) customers.

The company claims to have data on more than 200 million Americans, through an opt-in solution, which is staggering. With many data points held on individuals, the solutions capture billions and trillions of transactions and signals, with the company employing hundreds of data scientists and owning numerous patents, ensuring the relevance and strength of the platform.

Data-driven and personalized marketing results in greater ROIs as it achieves greater prospects of converging these leads into actual customers. With the regulatory framework having toughened up, Zeta claims to be compliant. An interesting observation is that former Apple (AAPL) CEO John Sculley actually founded the business back in 2007.

The company went public at $10 per share, at the low end of the preliminary $10-$12 initial offering range, with the enterprise value coming in at around $2.0 billion at that level. That valuation was applied to a business which posted $306 million in revenues in 2019, on which an operating profit of $17 million was posted. Revenues were up 20% to $368 million, with operating losses cut in half to $8 million.

Interesting was that first quarter sales for 2021 were up 25% to $101 million, implying a valuation at around a 5 times sales multiple. Moreover, an operating profit of $2 million was reported, yet despite these achievements, shares fell to $8 on the first day of trading. The resulting 4 times sales multiple looked interesting given 25% revenue growth and flattish operating profits.

I wondered what was the reason behind the low multiple, certainly as valuation multiples in technology and IPO names were quite a bit higher at the time. Despite the solid commercial traction, I had some concerns as well, as Zeta aimed, but failed, to go public in 2016 and 2019, with private valuation transaction actually showing a downwards spiral. Despite these concerns, the overall valuation meant that I was happy to initiate a small speculative position at the time.

What Happened?

Coming out of the IPO gate, shares fell to $5 and change later in the summer. Ever since we have seen a solid recovery, with shares now trading at $11 and change. In August of last year, the company posted second quarter sales of $107 million, up 39% on the year before amidst easy comparables, with big net losses being driven by the IPO. Towards the end of the year, the company posted a 21% increase in third quarter sales to $115 million, as the margin front was again overshadowed by a quarterly $69 million stock-based compensation expense.

In February, Zeta posted fourth quarter sales of $135 million, up 18% on the year before. Of course, we have to remember that the presidential election took place in the fourth quarter of 2020, as, adjusted for that, sales growth would have come in around 32%. The problem was that of continued pressure on the bottom line results.

With revenues trending around half a billion now, the company has set quite solid ambitions for 2025. These call for revenues to double to $1 billion, to be accompanied by 20% EBITDA margins (with these margins now trending at 14% already in 2021). While these numbers look ambitious, as the company posted $63 million in EBITDA already over the past year, this is overshadowed by a real D&A expense of $45 million, as well as stock-based compensation which ran at a quarter of a billion last year. This was largely driven by the IPO as the question is what the real run rate of such compensation would be.

No Longer Holding

Having initiated a small position at a $1.6 billion, or $8 per share, valuation in the summer, I have cut my position entirely at $11. This marks a near 40% return in less than a year, all while the environment for technology and IPO names has cooled down significantly. Furthermore, while topline sales growth has been solid, the numbers on the bottom line are a real cause for concern, as the risk-reward here has deteriorated greatly, making it an easy choice to take reasonable profits on a very modest position.

While the overall sales multiples appear very reasonable, and growth looks solid, I fear the combination of modest 20% EBITDA margins not translating into economical profits amidst likely continued elevated stock-based compensation expenses.