Datawatch (NASDAQ:DWCH) is financially a strong, but it's tiny with a $23 million enterprise value. They are the world leader in a developing BI niche — reporting mining or analytics. Their cult-like user base has grown over the past 10 years, reaching over 50,000 companies and 500,000 users in over 100 countries.
Datawatch is now 100% dedicated on exploiting this overlooked niche.
Datawatch develops and markets software that transforms massive amounts of data locked in static reports, PDFs, web pages, desktop applications and countless other content rich formats into usable dynamic analytical information.
CEO Michael Morrison (joined Datawatch Feb. 14, 2011) recently made an accurate assessment: "We truly see Datawatch going forward as a markedly different company than it has been in the past and we want to help our key audiences understand how that benefits them." The recent quarter demonstrated his belief based on the countless realized improvements and extraordinarily convincing insider buying.
The company has performed well over the past few years based on profitability, free cash flow, and a strong balance sheet. Although the stock has moved up quickly over the prior 52 weeks pushed higher on sound but less than spectacular financial results. The real driver of the stock price started October 2010 with new board member David Mahoney. Mr. Mahoney was the former CEO of Applix and a wildly successful technology entrepreneur of public and private companies. Mr. Mahoney purchased 2.8% of the shares outstanding or 168,330 shares, recently paying up to $5.62 per share in the open market. But five months ago the action got far more interesting. Michael Morisson was hired as CEO. Morisson was previously the COO of Applix and was involved with the sale of the company to Cognos on October 2007 along with CEO Mahoney. Morisson currently left IBM/Cognos to be the CEO of Datawatch. Mr. Morisson has been buying large amounts of the stock in the open market. He now owns 394,342 shares or about 6.48% of the shares outstanding, clearly showing confidence in Datawatch's future.
This most recent quarter was the first quarter under Morrisson leadership and many short- and long-term improvements have already been realized.
Why Does the Opportunity Exist?
Dramatic recent additions of talent have occured at this tiny company that understands the huge opportunity of the Datawatch product offerings. A new CEO, board member, sales/marketing talent and dramatic recent improvements mark a clear path to success. These new hires did not leave their successful positions from larger more successful business intelligence companies because they needed a job. They are attracted by the challenge and huge opportunity to change the way business intelligence is used.
In Michael Morisson's own words posted on the company's new blog in a post called "Why Datawatch:"
"I see Datawatch as an undiscovered 'gem.' A unique technology solution that solves real business problems – quickly and economically. A loyal and passionate customer base that really understands the value we bring to business."
"I saw these same characteristics in Applix, when I joined in 2004."
"As I looked in to Datawatch's business, I became convinced there is a sizable opportunity to aggressively grow the company and bring Datawatch's unique report analytics solutions to more and more organizations worldwide. There were three areas that became a tipping point for me: the market need, the passionate (almost cultish) customer base and Datawatch's software offerings."
There are sizable, immediate, soon-to-be-realized low-hanging fruit to upgrade those desktop users in 50,000 companies that are working with single-user desktop solutions to the higher priced enterprise solutions with recurring revenue.
So what are the important changes during the third-quarter transition period that warrants a higher valuation on the stock?
Raw listing of recent third-quarter improvements supporting much higher future stock price:
- Dramatically improved updated company's website to educate and better explain the overlooked value of report analytics.
- New upgraded flagship product Monarch.
- Hired 16 new marketing and sales professionals with deep BI experience.
- Opened a new sales Office in Munich Germany and appointed a veteran sales leader with BI talent from Oracle, Cognos and Applix as country manager to add new companies, and sell the additional value proposition to the existing +2,000 companies in the region.
- Extended presence in the Philippines with a new Infomax partnership.
- On an international basis, they entered into several distribution agreements to extend geographic reach, with shade in South America; Serial and date in Malaysia; and quantalytic in Australia, they recently entered into an important technology alliance agreement with QlikTech, one of the fasters going vendors in the business intelligent in analytic space.Meeting with industry analyst to ensure that they understand Datawatch today and recognize what they bring in terms of our differentiated solutions.Delivered 22 unique lead generation programs and have 48 programs either currently in process or planned for execution this quarter.In the U.S., they signed on industry specialists, break-away technologies, Data41 and Cogent to resell and implement our report analytic solutions.
- Key wins in the financial services industry with Citibank (C) in Egypt, Standard Chartered in Singapore, and Royal Bank of Canada (RBC). They had a Blue Chip names in the U.S., such as UPS, Hewlett-Packard and Foxwoods. They now count 99% of the Fortune 100 as customers, as well as 95% of the Fortune 500.
- An example of Datawatch's industry penetration, in the prior month U.S. News & World Report ranked the top 17 hospitals in the nation. All 17 of these prestigious medical centers are Datawatch customers. The scope and breadth of their customer base is an impressive advantage for Datawatch and they will leverage it over time.
- They have tremendous opportunity just in their existing worldwide customer base.
- It's very large and there is a great opportunity to up-sell into the broader portfolio, but a large percentage of their marketing spend right now is to attract new name prospects and they closed several this past quarter. So it was a historic quarter at Datawatch in terms of forward movement and improvements in the company. Now let's get to valuation.
Average annual FCF from 2007 to the TTM was $2,015,800. $1,846,000 for the TTM. FCF margins averaged 9.50% for 2007 to the TTM period and 10.66% for the TTM. I will use these results to help build part of my valuations.
My assumptions were a 6% WACC over a 20-year period with no terminal value, free cash flow margins at 9.5% based on historical results and 6,160,000 shares outstanding based on the current balance. I tried to find a reasonable intrinsic valuation based on several very conservative scenarios.
Three rough by their very nature estimates of intrinsic value: My estimate is $6.50 to $11 but the potential upside is strong and a much higher price than $11 in less than a year is my personal estimate and would only consider selling over $11 if quickly reached.
1)Intrinsic value estimate of $6.35 per share starting with $2.015 million in annual FCF based on the average FCF from 2007 to the TTM for the first year and 10% growth in three years subsequent with 0% thereafter.
2) Intrinsic value of on $8.89 per share starting with $2.5 million in FCF and 15% growth for three years, then reduced to zero for the remaining periods.
3) $10.04 per share estimate based on 30% FCF growth over the average FCF (2007 to TTM) and 30% per year for three years that is reduced to 0%. $7.47 per share if I reduce the time period to 20 with no terminal value or $6.21 for 15 years. If we start with $2.5 million and use the same assumptions the results would be $7.70 for 15 years and $9.27 per share for 20 years with no terminal value.
My FCF expectation are much higher based on the aggressive changes realized in the Q3 transition period. The major upgrade of their flagship product Monarch just announced, new sales and senior management team coupled with the ample low hanging fruit with the existing 500,000 license users in 50,000 companies in 100 countries. As the CEO Morisson stated in the conference call, "We truly see Datawatch going forward as a markedly different company than it has been in the past."
Several years ago, the only comparable product that has most directly competed with DWCH's Monarch software was from a company called Data Junction. Data Junction sold Cambio to replicate some of the functionality of Monarch to mine data from disparate text data sources. To make a long story short, Monarch is far more capable, popular and functionally rich with the ability to mine data from PDF, XPS, HTML, MDB, XLS and other popular sources of data. I've used both of the companies' products and can testify to the superiority of Datawatch's Monarch.
In April 2003, Pervasive Software (PVSW) saw the potential of Data Junction's report mining software and purchased Data Junction for a total value at approximately $51.10 million. ..22.1 million in cash and 5 million shares of PVSW (Pervasive) stock At the time of the purchase, Data Junction had "more than 25,000 customers." Datawatch's desktop Monarch currently has over 500,000 worldwide growing licenses.
Another important valuation comparison is with Mobius (NASDAQ:MOBI). Back on April 11, 2007, MOBI accepted an offer from the privately held Allen Systems Group for $10.05 cash per share. The total value of the offer was about $195 million.
Mobius resells the Datawatch data analytics product, Monarch, under the Mobius product name DocuAnalyzer. Datawatch now competes with Mobius on larger BI enterprise solutions.
Current Valuation Metrics:
ROIC TTM = 6.84% : FCF/Sales = FCF margins = 10.66% : EV/Revenue = 1.40 : Enterprise value = 24.21 million, GP = 12.40 million : EBITDA 1.87 million : FCF/EV TTM = 7.62%
Dramatic immediate and continued future increases in FCF and sales based the changes listed above. Little or no need for capital expenditures based on the completion of all major software upgrades. Strong pipe line mentioned in the conference call. Many new technology partners. The changes during the recent quarter transition period are historic in terms of number and aggressiveness in all areas of marketing, sales and technology. Recent upgrade off their flagship product Monarch will surely be impact profits and sales significantly in the near term. 44% owned by insiders. New aggressive experienced and proven CEO, board, and sales/marketing team.
Long: Long Time Holder of DWCH