Summary
- The turnaround for Datawatch (DWCH, Financial) started in the fourth quarter of 2015, near an average of 18% year-over-year quarterly revenue growth during the past two years. The accelerating growth was after costly strategic mistakes from 2013 to the end of 2015.
- Intrinsic value is improving from the increasing percentage of recurring revenue now at 60% expected to grow to more than 70% next year.
- The second quarter acquisition of Agnoss completed Datawatch’s data analysis offering. This addition presents Datawatch with cross/up-sell opportunities for larger deals. Datawatch now offers data prep, discovery, visualization and predictive analysis. Data can be at rest or in motion, structured, unstructured or streaming.
- Non-GAAP revenue surged 42% versus the prior year’s quarter (23% for GAAP revenue). License revenue improved 78% to the prior year's quarter. Subscription revenue increased 130% versus prior year quarterly results and 17% sequentially. Deferred revenue is 70% greater from the prior year’s quarter and 4% sequentially. Partner contribution grew 40% in the third quarter of 2018 versus the third quarter of 2017 without Angoss.
- The global data wrangling market projects a cumulative annual growth rate of 20%. Market value is expected to reach 3.97 billion by 2024, according to Zion Market Research.
- Panopticon contributed two six-figure deals in the third quarter of 2018. The market is now recognizing the need to analyze/visualize data in motion and streaming, not just for investment banking but the internet of things.
- Average deal size and the number of six-figure deals is growing.
- Automatic executive stock sale program every quarter stopped for this most recent quarter. It may be a stretch, but no insider selling could indicate outside interest or other material events that prevented automatic sales.
- It trades at a valuation discount to competitors.
Why is the near-term double-digit accelerating growth preceded by two years of continuously failed quarters from around March 2014 to end of 2016? Investors watched in horror as Datawatch stock was destroyed quarter after lousy quarter. During this time Datwatch hit $35 on Feb. 24, 2014, only to drop in price $3.10 on January 2016.
Let's briefly review the self-imposed dark years from 2014 to the end of 2016. What went wrong after a successful $53.60 million capital raise on January 2014 selling more than 2 million shares at $28.50 per share? The secondary was months after the acquisition of Swedish visualization software Panopticon on August 2013. After the Panopticon acquisition and the secondary, Datawatch thought it could spend millions on advertising trying to compete against Tableau and other visualization software.
This self-imposed mistake was caused by marketing's leadership with no hands-on working knowledge of Panopticon. If management understood Panopticon software, the millions in advertising and strategic distraction nightmare would never occur. Further, during this time marketing management ignored their company's legacy strength/moat with data prep Monarch software. The marketing leadership rebranded Monarch and Panopticon. They ignored the tens of thousands of loyal companies using Monarch and the well-established brand recognition for two decades to rename Monarch to Modeler along with Gartner recognized real-time visualization Panopticon to Designer.
"Gartner inquiries also suggest a level of dissatisfaction in the legacy Monarch installed base as Datawatch transitions it to the new integrated platform,"Â Gartner reported on Datawatch for the 2015 BI magic quadrant.
At the end of 2015, after wasting millions on an epic failed strategic plan, Datawatch is forced to recognize its missteps. So with new marketing leadership, it changed Modeler back to the original name Monarch and refocused on its legacy strength. Additionally, Panopticon marketed as real-time fast visualization focused on the capital markets for now. To management's credit, they recruited back a talented hands-on technical leader from Panopticon, Peter Simpson. Peter Simpson is now the vice president of Visualization strategy. I'm convinced Simpson in short time will have the team to support Panopticon as a must-have application for IoT (internet of things), not just capital markets.
Further, on February 2016 a new chief marketing officer and chief operating officer Ken Tacelli was hired. Tacelli is driving consistent growth and accelerating sales using specific industry case studies demonstrating real-world value. Tacelli is an important part of this exciting turnaround.
Monarch has improved functionality after a product upgrade slip, specifically V11 at the beginning of 2013. Panopticon is no longer sold as general visualization to compete against Tableau but instead, as the only programming free product that works with data in motion (real-time streaming), that's critical to Wall Street and IoT. The market recognizes the unique advantage of Monarch and Panopticon. Now with predictive analytics from Agnoss, Datawatch offers a best-in-class complete data solution.
A deeper dive into the third quarter highlights the improvements that will justify a higher multiple
Datawatch continues to maximize revenue growth by deliberately running at break even and investing efficiently. Non-GAAP third quarter net income was $940,000, or 7 cents per share. The current closed quarter is the first full reporting period with Angoss. But, due to GAAP purchase accounting rules, a significant portion of the Angoss revenue that was due to contracts in place before the acquisition is not classified as revenue. The expenses associated with these transactions is recognized. At least cash from these transactions is collected and reported. The addition of Angoss' predictive analytics completes the set of Datawatch's applications. Therefore, Datawatch offers a comprehensive set of data analytics and data science capabilities, the solution provided for data at rest or in motion in a structured, unstructured or data streaming formats.
Twelve six-figure deals, the highest in the company's history, were realized during the third quarter. Six of those deals were driven by Monarch/Swarm (data prep), two by Panopticon (real-time analytics/visualization) and four by Angoss (data science/predictive). The average deal size was $50,000 as compared to $39,000 in the prior year's quarter. Notable wins were ADP and Black Knight for Monarch, Foxtel with Agnoss predictive analytics and global financial service firm Jefferies, which purchased Panopticon for real-time visualization.
On a non-GAAP basis, total revenue was $12.9 million (13.50 million total bookings) versus the prior year's period of $9.1 million, a 42% increase. Total GAAP revenue was $11.1 million, up 23%. License revenue was $8.7 million versus $4.9 million, a 78% increase from the prior-year period. On both a GAAP and non-GAAP basis these are record high quarterly revenues for Datawatch. The license subscription model continues to become more meaningful within overall results. Subscriptions contributed $2.5 million of the license revenue during the quarter, representing 36% of our current quarter's license revenue. This improvement represents about 130% over the prior year's quarter and 17% sequentially. The cash position is strong with a balance of $13.6 million. Deferred revenues were $18.8 million at the end of the third quarter, the highest recorded and up 70% from the prior year's third quarter and 4% on a sequential basis. The partner contribution grew 40% versus the prior year period. Note, Angoss does not use partners but is expected to start.
Improved future results are even more compelling given that they have yet to focus on Swarm and push the full potential of Panopticon. The current pipeline and proof of concept requests (Fortune 1000-type) have grown materially. There are now cross-sell, up-sell and complete package deals that offer higher deal size.
Valuation:
Datawatch is a small microcap recently growing by around 18% year over year the past two years with the revenue and gross profit at this time mainly generated by Monarch. But now with the addition of Agnoss, Swarm and renewed emphasis on Panopticon, the growth rates should continue and improve. The company's shorter-term, higher market value is from an acquisition. A larger software company that can roll Monarch/Swarm, Panopticon and Agnoss into their existing sales, research and administrative organization can realize a highly accretive acquisition. The other growing attribute is recurring revenue at 60% that will grow to higher than 70% by next year even if no changes are made. The company can materially accelerate growth but is focused on breakeven results at this time. Recurring software revenue is historically valued at a higher valuation of around six times income. Also, Datawatch offers substantial valuable net operating loss carryforwards.
The recent non-GAAP revenue makes Datawatch a $50 million annual revenue company. This gives Datawatch a conservative valuation: (4)(50) = $200 million market cap versus the current $143 million, or 40% higher from the current price.
To put it in perspective ofrecent acquisition valuations, in February 2015 Hitachi Data Systems acquired open source business intelligence and analytics specialist Pentaho. The acquisition value was not disclosed but was estimated between $500 million and $600 million, or seven times Pentaho's annual revenue of $85 million. Hitachi Data Systems' motivation was to gain market access to the same data wrangling market as the much smaller Datawatch.
In spring 2016, Qlik went private by an equity firm for $3.40 billion with annual revenue of $3 billion, or approximately 3.40 times sales. TIBCO went private for approximately $4.3 billion or around four times sales. It's worth noting that Tibco uses Datawatch's panopticon for in-motion real-time analysis.
Related: Note the current higher multiples (P/S) for near competitors
Historical growth. Amounts in millions
Current DWCH valuation
Market vap = $145.79 million : Enterprise Value= $150.86 million
Price/sales (ttm)= 3.62 : Price/book (mrq) = 5.22 : Enterprise value/revenue = 3.74
Revenue (ttm) = 40.3 : Gross profit (ttm) = $35.88 million
Revenue per share (ttm) $3.25 : Gross profit per share = $2.82
Quarterly revenue growth (year over year) = 22.50%
Total cash (mrq) = $13.58 million total cash per share (mrq) = $1.07
Total debt (mrq)= $9.1 million : Current ratio (mrq) = 1.22
Book value per share (mrq) = 2.19
52-week change = 6.28% : 52 week high = 14.20 : 52 week low = 7.70
Shares outstanding = 12.73 million : Float = $10 million
Percentage held by insiders = 15.11% : Percentage held by institutions = 39.06%
Short percentage of float (Aug. 30, 2018) = 0.65%
Risks
There are limited resources that further risk overemphasizing Swarm than stay focused on Monarch with larger deal sizes to include Agnoss and Panopticon.
There is a need for additional capital. If they decide to make the bet, it's better to put the foot on the gas now and gain greater market share. This could be a mistake especially if they are spending the money on Swarm because it will outsell Monarch for data prep.
There are too many resources and time spent promoting Swam rather than focusing on Monarch, Panopticon and Agnoss.
There will be dilution if they see the immediate need to raise the current $13 million cash balance to grow faster in this fast-growing industry. These growth rates will not last forever.
Opportunities
There is the possibility of a near-term company sale with a motivated shareholder-friendly management and a board at near 13% insider ownership. My guess is that they don't sell out for less than $250 million. It's reasonable, and management expects to be a $100 million annual revenue company over the next few years.
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I am long Datawatch.
