Fast growing small company – check.
Huge margins – check.
Cash machine – check.
No debt and healthy balance sheet – check.
I’ll take you through how I analyzed this company and what my conclusion is.
The Retail Shipping Industry
I recently announced that my wife started her own ecommerce business and one of the big hurdles with any online store is shipping.
This isn’t the first time my wife and I tried an ecommerce store.
When we first started and an order came in, my wife would box things up and make a trip to the local USPS, stand in line and mail it out.
As you know, online orders don’t come in at the same time.
Being new to the whole online business thing and just happy to be getting some orders, my wife would make a trip maybe 2 or more times a day.
And if you’ve been to the USPS, you know how frustrating things can get when lines are long and people are slow.
So this was a huge waste of time. It’d literally take 30 minutes to ship out a package.
Funnily enough, this is very common.
With more people making a living off eBay and the Amazon marketplace nowadays, expect the number of packages being shipped to increase.
The Middleman – Stamps.com (STMP)
This is where a middleman service like stamps.com comes into play.
Instead of having to wait in line to buy the postage and ship the box, stamps.com allows you to pay for the postage online.
You then print out the shipping label, stick it on your box and simply drop off your package at the nearest location.
If you have enough volume, you can arrange USPS to come by daily to pick up your boxes.
You get all this by paying a small monthly fee to stamps.com.
Stamps.com is one of three vendors licensed by the USPS to sell postage. You won’t get more USPS reseller competitors so the obvious competition is really UPS (UPS) and FedEx (FDX).
UPS and FedEx are able to adapt to changes in the environment whereas USPS has to go through congress to make changes.
Both UPS and FedEx welcome new business accounts and it’s also very easy for business owners to go online to pay and print out labels. Once you start gaining some volume with either UPS or FedEx, they will negotiate some good rates for you.
It’s a win-win.
On the other hand, there’s no such thing with USPS. You pay what they charge and it’s not a scalable solution limited to smaller businesses.
Cash Cow Subscription Model
Stamps.com operates a SAAS (Software As A Service) subscription model which means that people pay monthly or yearly for the service.
If the service is valuable and helps people save time and energy it’s a no brainer for people to continue subscribing. By offering a product that helps you respect and maximize your time, it becomes a very sticky business for consumers.
Once a business model like Stamps.com gains traction and hits a certain number of customers to break even, it’s a huge cash cow from there.
Having been in business since the dot com era, Stamps.com is well established.
Just look at the FCF growth that Stamps.com has witnessed.
There is some serious fluctuation, (there’s a reason) but you can’t deny that this small company is a cash cow while trying to grow at the same time.
FCF and Owner Earnings in Millions
FCF and growth have fluctuated wildly over the years, but 2013 looks to be a breakout year with TTM numbers looking good also.
FCF is simply
FCF = Cash from Operations – Capex
Owner Earnings I’m using is;
Owner Earnings =
Reported Earnings (also known as Net Income)
+ Depreciation, Depletion, and Amortization
+ Other Non Cash Charges
– Capital Expenditures (if you can, use maintenance capex)
– Increase / (Decrease) in Working Capital
Using FCF to Perform a Quick Initial Valuation Filter
When I first load STMP into my stock analyzer, I’m greeted with this raw intrinsic value chart based on DCF.
STMP DCF Price to Intrinsic Value – source
Whenever I see a chart like this where the intrinsic value is much higher than the stock price, I immediately know that the company;
a) makes a ton of cash (explained above)
b) has a high growth rate
Checking in on STMP, I’m greeted with both A and B.
However the expected growth rate of 27% that I’m getting is too high for a company that hasn’t proven itself. Not worthy of such a high growth rate at the moment.
Over 5 year and 10 year period, the growth rates aren’t very impressive.
5yr & 10yr FCF Growth Rates
Only comes out to 8.8% over multiple rolling periods in the last 5 years.
It’s 6.2% when you take multiple periods throughout the past 10 years.
These two numbers are indicative of how cash growth has been volatile despite making so much money.
Now if I adjust the growth rate down to next years expected rate of 12%, the chart becomes much more reasonable.
Intrinsic Chart Updated
So there’s some hope.
NOL’s Good or Bad?
It’s viewed as an asset when a business holds a a large NOL balance with a distant expiration date.
But in Stamps.com case, the NOLs are already expiring.
We have NOL carryforwards of approximately $200 million and $95 million for federal and state income tax purposes, respectively, at December 31, 2013 which can be carried forward to offset future taxable income. We have available tax credit carryforwards of approximately $4.0 million and $3.5 million for federal and state income tax purposes, respectively at December 31, 2013, which can be carried forward to offset future taxable liabilities. Our federal NOLs will begin to expire in 2020, and our state NOLs have begun to expire. The federal tax credits begin to expire in 2018. Under California law, California tax credits do not have an expiration date. –source
If the NOL was set to expire in 2020 like the federal NOLs, then this could be viewed as an asset.
However, in a few years, the NOLs will all be gone and Stamps.com will likely pay taxes in the 33% range.
That’s obviously going to affect the bottom line and drag down performance.
ShipStation Acquisition and the New Direction
At this moment in time, Stamps.com isn’t a bad stock.
In fact, there are some things going for it.
Their recent acquisition of ShipStation.com for $50m in cash was great.
ShipStation is an online shipping software solution to help manage online orders. They let users connect to stamps.com, UPS, FedEx and other carriers.
They also support Amazon Fulfillment so that ecommerce sellers can use Amazon’s fulfillment service.
Not only that, they are the #1 shipping and order management solution for ecommerce stores. Mostly all big ecommerce systems connect directly to ShipStation which is a huge benefit.
My wife uses ShipStation and it’s a life saver. It streamlines and improves the efficiency of shipping packages with other stats to help you see how your business is doing.
It’s finally a step forward for Stamps.com to diversify revenue away from USPS.
I bring this up because…
USPS Risk is Real
I’m sure you’re aware of the financial stuggles that USPS is facing. It’s weird how USPS is government owned, yet they don’t get the funding. They have to act like a privatized government entity which is an immediate disadvantage.
No immediate funding, big pension liability they have to fulfill, slow and cumbersome organization.
What’s worse, USPS will continue to lose out on competition because it can’t make changes on it’s own. Important changes have to go through congress which is a waste of time.
With this additional context, let’s move onto the valuation to see what comes up.
The expiring NOLs make things slightly more complicated, and the following two points make DCF a problem.
- Paying taxes will affect the FCF
- DCF isn’t good for inconsistent FCF companies
It’s easier and cleaner to apply
To get the full explanation of how this works, view this article that takes you through the EBIT process.
Here’s the model for stamps.com
EBIT Valuation Model
The main thing here is that I’m using a lower than expected revenue number to start with and using an EBIT multiple ranging from 12x on the conservative side to 20x on the aggressive end.
This gives an intrinsic range of $21 to $34.
The EBIT valuation is showing that STMP is fairly valued to overvalued.
Katsenelson PE Valuation
Rather than go over every detail of how this method works, be sure to visit the full Absolute PE tutorial.
With a current PE of 11.6, the expected growth rate for this PE is 7% based on the table below.
The PE to Growth Rate Conversion Table
Stamps.com doesn’t give any dividends so it’s a simple calculation from here.
These are the scores I’m giving Stamps.com.
- Business safety: 10/20
- Financial Safety: 20/20
- Earnings Safety: 13/20
Inputs and the Fair Value Estimate
And these are the calculations based on the above inputs.
Fair Value Calculation
To sum up the method briefly, you start with the current PE and then apply some adjustments based on the strength of the business.
Doing this, the fair value PE comes out to be 13.15 which is equivalent to $37 based on the current EPS.
$37 is at the top of the EBIT range so at this point, I’m inclined to think that the fair value of STMP is currently close to its trading price.
At this point, no.
With the 20% of the work I’ve done here, it gives a pretty good picture for 80% of the business. But that’s because Stamps.com is a business and industry that I am familiar with.
To go deeper, you could dive into customer reviews, average revenue per customers, churn rates, conversion rates and other SAAS metrics.
Despite the initial good looks, considering the risks, inconsistency of Stamps.com and lack of valuation, it’s a pass right now.