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VeriSign Inc. (VRSN) - Stock Analysis
Posted by: David Kerr (IP Logged)
Date: October 10, 2013 09:11AM

VeriSign Inc. (VRSN) is a provider of Internet infrastructure services. The company offers network confidence and the availability of critical Internet services, such as domain name registry and infrastructure assurance services. VeriSign operates only under a single segment, Naming Services, which can be divided into Registry Services, Availability Services, and Network Intelligence. Registry Services operates the directory of all .com, .net, .cc, .tv and .name domain names and the back-end systems for all .jobs and .edu domain names. The company’s service capabilities allow real-time name resolution for various global top level domains, provide security intelligence, enable domain name registration through registrars, and cloud-based network availability services to enterprise customers.

VeriSign was founded in 1995, and now operates globally with over 1,000 employees. The company also currently manages two of the world’s 13 Internet root nameservers (the servers at the root of the Domain Name System hierarchy).

In the year 2000, VeriSign acquired a company called Network Solutions, which operated the .com, .net and .org top level domains under agreements with the Internet Corporation for Assigned Names and Numbers (ICANN) and the United States Department of Commerce. This acquisition of registry functions formed the groundwork for VeriSign’s Naming Services division, which is currently the company’s largest and most significant operation.

VeriSign also used to be in the business of encryption and authentication certificates, until the company sold this division to Symantec in 2010. Have you ever seen that small padlock icon next to the web address on your browser while logging in to your bank account or shopping online? Prior to 2010, there’s a good chance that it was because of VeriSign. Before the sale, VeriSign had more than 3,000,000 certificates operating for everyone from military, to financial services, to retail businesses. This made VeriSign the largest certificate authority on the internet. In 2010 Symantec acquired this portion of VeriSign’s business for roughly $1.3 billion.

Financial Strength

VeriSign’s operating margin is an impressive 55.6%, and the company’s net profit margin is 37.58%. VRSN’s operating margin is greater than every one of its peers. That’s pretty impressive. The company also has a gross margin of 80.98%, which is greater than 84% of other companies in the Software and Programming industry. One is inclined to assume that the margins will decrease due to the recent ICANN agreement, which doesn’t allow for the company to increase .com domain prices through 2018. The agreement also only allows VeriSign to increase the not-so-popular .net domains by 10% annually.

VeriSign has a lot of cash, and cash is king. VRSN currently has more than enough cash ($1.997 billiob) to pay off its current liabilities ($1.741 billion). The company also has a current ratio of 1.18.

VRSN’s revenue and income have also been increasing over the last several years. From 2008 to 2012, the company has experienced revenue growth of 56%, and a 1,857% increase in operating income over the same time period. The following chart shows the numbers.



VeriSign’s board of directors has been authorizing the company to make share purchases for quite some time now. As of Dec. 31, 2012, VRSN still had $975.5 million remaining for future share repurchases under the 2012 Share Buyback Program. Here’s what VRSN has been doing over the past three years:




Management


I really like the way the VeriSign pays their executives. They have a strong bonus structure. The executives have the chance to earn a pretty hefty bonus if they preform. VeriSign states in its Proxy Statement that attracting and maintaining a high level of executive talent that it need to be successful is a key objective for the company. It also states that it is equally as important that their executives maintain motivation and are rewarded for achieving objectives that provide long-term benefits to their stockholders. Below is a chart from the company’s recent Proxy Statement that outlines pay and bonus amounts (with reasoning) for 2012.



Valuation

If we were to take a look at the conventional P/E method, we could subtract $1.997 billion in cash from the $7.1 billion market cap and determine that the company’s actual operations can be purchased for $5.103 billion. Because VRSN has a net income of $355 million (TTM), the company is actually trading at a P/E of 14.37 as opposed to the current 23.04 ($5.103 billion / $355 million).

One could also look at the classic Benjamin Graham formula to come up with an intrinsic value. Performing the calculation of EPS x (8.5 + 2 x Ten Year Growth) we can end with an intrinsic value of $62.15 (using 10% for growth and an EPS of 2.19).

ICANN gives VeriSign somewhat of a monopoly in the industry. This monopoly has helped to increase net income so drastically, and also contributes to the massive drop in the P/E ratio from being in the 90’s in 2010 to the 20’s currently.

Risks

The US Commerce Department approved VeriSign’s contract renewal with ICANN to serve as the authoritative registry operator for .com registry in November 2012. The new contract is effective until the end of November in 2018. This is great news, except for the fact that VeriSign is not able to increase prices at all during this time. VeriSign’s previous contract allowed the company to raise prices on four different occasions over six years by up to 7% each time.

It is also concerning that the company currently has a short interest of 13.1%. This may be due to the recent agreement, as well as the assumption that margins will decrease. VeriSign has been pretty explosive, putting up rapidly increasing revenue growth and free cash flow growth numbers over the last 10 years, but the contract renewal may greatly hinder this. VeriSign definitely has some obstacles to overcome.

Warren Buffett’s Buy

Warren Buffett first bought this stock at the end of 2012 for an average price of $41.58 (3,685,700 shares). He has since increased his position on two different occasions by a total of 195%. The highest average price that Buffett has paid for this stock is $46.33.

This Buffett buy intrigues me a lot. What do you think his reasoning is behind the buy? For a company that looks like its explosiveness may be slowing down, it seems like an odd choice for the Oracle. Granted, the company still has a lot of upside potential to it, but VeriSign will definitely have to overcome some long term obstacles now that it is unable to increase prices on its biggest market.


End Notes


Disclosure: No current position held at the time of writing.

Disclaimer: The opinions and ideas in this article are for informational and educational purposes only. They are not a recommendation to buy or sell any stock at any given time. As always, it is imperative for each individual investor to do their own due diligence and perform their own research on any and all stocks before making an investment decision.


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: stevenramsey (IP Logged)
Date: October 10, 2013 12:30PM

Two big things to consider here:

1) Lou Simpson is on the board, which ensures quality capital allocation and probably continued equity shrink.

2) Ted Weschler was probably purchasing the stock, not Warren. Ted has purchased stock in quite a few companies that have limited competition (or no direct competition), subscription models, generate solid free cash flow, and where management makes it a high priority to buyback stock.

Look at: SiriusXM (through Liberty Media), DirecTV, Dish


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: David Kerr (IP Logged)
Date: October 10, 2013 03:31PM

Steven,

I definitely agree. Lou Simpson is a very talented man and will ensure that the right choices are made. He has an enormous amount of experience and brings a lot to the table for the company.

I apologize for any confusion by stating that the company was Buffett's personal choice. Too often we generalize Berkshire as a whole to be a one man show. I think it's a great observation to look in to Weschler's picks. The choice of VeriSign is definitely in line with his recent choices. Thank you for sharing.

-David


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: vgm (IP Logged)
Date: October 10, 2013 04:10PM

Very nice piece David. It's an outstanding company.

To add to the Lou Simpson connection, VRSN is one of his holdings in SQ. Interestingly he reduced the holding by about half from 1.1M to 515k shares last quarter. It's now the smallest position in his (albeit very concentrated) portfolio. Thanks Stevenramsey, I was unaware Lou was on the Board.

Thanks for the stimulation.


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: David Kerr (IP Logged)
Date: October 11, 2013 10:27AM

Great catch Vgm. That is definitely an interesting point. Any idea as to why he reduced his holding?

-David


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: vgm (IP Logged)
Date: October 11, 2013 04:40PM

David -- Lou never talks about his holdings and so it's not possible to know with any degree of accuracy. For what it's worth, my view is that it's likely to be on account of valuation. Another guru whom I follow closely is Glenn Greenberg at Brave Warrior Advisors. He worked with Lou for a time and has an exceptional record of his own. Glenn holds VRSN too and has been decreasing his holding, though not as steeply as Lou. Both tend to buy and hold for 3-5 year periods and run very concentrated portfolios. By mid-November we'll see if they've continued to reduce VRSN in the latest filings. vgm


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: David Kerr (IP Logged)
Date: October 11, 2013 11:11PM

Vgm,

Thank you for turning us on to Glenn Greenberg. I know the next guru I'm going to look in to!

Is Glenn currently holding VRSN under a certain fund? Looking at his porfiolio here I don't see a current holding.

-David




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Re VeriSign Inc VRSN - Stock Analysis
Posted by: vgm (IP Logged)
Date: October 12, 2013 04:39AM

David -- I don't quite know how to say this, but you're right and I've been in error! I've been confusing Verisign and Fiserv in Lou and Glenn's portfolios. Very embarrassing. I can't apologize enough. Having said that, Glenn Greenberg is definitely worth following. His track record is up there with the very best. Again apologies for the confusion.


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Re VeriSign Inc VRSN - Stock Analysis
Posted by: David Kerr (IP Logged)
Date: October 12, 2013 12:13PM

Vgm,

No worries. It happens to the best of us. I'm still glad that you were able to turn me on to Glenn, so thank you!

-D


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