During the peak of the Covid-19 pandemic, the craze on Wall Street was actually coming from Silicon Valley. Special purpose acquisition companies, or SPACs, were being created to bring a lot of tech companies public without the same level of due diligence and negotiation that would typically take place. So far, it has not worked out too well as investors put up over a quarter of a billion dollars into stocks at really high valuations. For all its faults, New York banks generally do no value companies the way Silicon Valley does, and that is a good thing.
SPACs are very compelling since the sponsor can start what’s called a blank-check company and find an acquisition later after raising money. The dynamics go like this: SPAC sponsors typically receive 20% of the common equity in the SPAC for an investment of approximately 3% to 4% of the initial public offering proceeds. For example, in a $1 billion million SPAC, the sponsor could receive approximately $200 million worth of common stock for about a $30 million investment in warrants. While it is a good deal for the sponsor, it is not so much for the other investors, and most of these issues are down big since becoming public.
With that in mind, there are still good businesses that were brought to market this way. Some are evern trading at prices that make sense. In this disucssion, we will take a look at two I like.
Opendoor Technologies
Opendoor Technologies Inc. (OPEN, Financial) is a real estate technology company that simplifies the home buying and selling process, essentially buying the home and then flipping it themselves. Through an online platform, the company makes cash offers on homes that need redevelopment or updating, make repairs and then put them back on the market while trying to lower broker fees. That is where the problem arises. Founded in 2014 and based in San Francisco, Opendoor offers a streamlined, hassle-free alternative to traditional real estate transactions.
In the last 12 months, Opendoor generated $16.5 billion in revenue, albeit at a net loss of $1.1 billion. What is the company’s path to profitability? In 2021, the total residential real estate market had more than $2.8 trillion. There is a lot of room for disruption since the average closing costs and commissions on a home sale can run as high as 10% with a baseline around 7% even on all-cash deals. That’s a $200 billion opportunity just on the residential side in the U.S.
Risk-reward with Opendoor
The biggest risk is leverage. Opendoor takes on considerable debt to purchase homes and may have a hard time selling them for profit. That is definitely the case currently with interest rates rising to meet inflation, along with the slump in housing transactions. These are likely short-term challenges. Interest rates are not at historical highs and I do not see them getting back to 10% anytime soon. However, even if I am wrong, that just means Opendoor will buy cheaper houses.
The rewards are capturing massive value by being the first to market and building a brand people trust to close quickly and fairly. People move for a lot of reasons and home ownership is still a fundamentally secure store of value. Opendoor should be able to take advantage of both the ups and the downs in prices as its technology matures.
Despite its shaky start as a SPAC, the company now presents some pretty unique growth characteristics. If we are pricing on sales alone, it is a bargain basement stock trade. The company generates nearly $6 million in sales per employee, or $26 per share, and has seen a 23 times increase on the top line since 2017. Since it buys houses outright, the company’s revenue could continue to see geometrical growth in the coming years.
Once Opendoor figures out how to turn a profit, the stock will likely be a lot higher than $1.75 per share. It is only a matter of time before it does.
Nextdoor Holdings
Nextdoor Holdings Inc. (KIND, Financial) is another San Francisco-based company. It provides a hyper-localized social networking service for neighborhoods in the U.S. and around the world. Founded in 2008, the service is now available in 11 countries and has become a popular platform for connecting communities, fostering relationships and providing real-time crime details. I use it weekly, and so do over 38 million other users. That said, like Opendoor, Nextdoor has seen a massive sell-off in its price since becoming public. Today, with a market capitalization of around $800 million, the stock is trading just above $2 per share.
My hope is that more people than not (even the youth) will prefer real life to the metaverse, which is a big reason why Nextdoor still has growth potential. Compared to Twitter and Pinterest (PINS, Financial), which generate around $70 in revenue per daily active user, Nextdoor generates about $17 per DAU.
Granted, Nexdoor has only a fraction of the users that Pinterest and Twitter do, but as was the case with Twitter, the company likely does not utilize the majority of its employees. And, as with Yelp (YELP, Financial), Nextdoor spends way too much on research and development. That expense alone is 68% of gross profit, which stands at 83%. In other words, Nextdoor needs new management because it should be profitable.
Risk-reward with Nextdoor
The company reports full-year results at the end of February. At the current valuation and with a net cash position approaching $550 million, investors are really paying just $250 million for the entire business. That is roughly 1.1 times annual revenue or 0.40 times tangible book value.
If Nextdoor could get halfway to the sales figures Twitter or Pinterest have, it would double sales. If it could do that and cut back on some of these unnecessary operating expenses, then the company could see its stock rise back to $10 and beyond.
This one is a no-brainer whether Nextdoor books a profit or not. People use and like the app. Someone wants to capture attention in these local markets and eventually, given the amount of eyeballs engaging with the app on a regular basis, someone will. There are plenty of companies and individuals with cash sitting on the sidelines ready to make a deal.
