Thomas Barwick
In May of this year, I concluded that shares of SPS Commerce, Inc. (NASDAQ:SPSC) looked vulnerable in this market environment. The company has been a secular growth play in recent years, as earnings growth has been a bit underwhelming.
Despite a solid long-term positioning, overall valuations remained a bit too demanding, setting investors up for a dangerous situation in my eyes given weakness seen across the wider e-commerce sector.
The Business
SPS Commerce has a mission to connect retail trading partners to joint its network. The company connects commerce, retailers, sourcing companies, factories, suppliers, 3PLs, carriers and others to each other.
Greater omnichannel capabilities and increased collaboration between these parties results in greater integration and hence optimized fulfillment services in the EDI (electronic data integrations) market.
The company has seen phenomenal growth, in part aided by bolt-on dealmaking, as it has grown sales from a mere $50 million in 2010 to $300 million in 2020, with EBITDA margins posted around 25%. With the momentum in the sector making SPS Commerce a $100 stock in 2021, shares rallied to a high of $175 per share last year, as they corrected to $108 per share in May of this year.
In February of this year, SPS posted its 2021 results with full year sales up to $385 million. GAAP operating profits rose in a modest fashion to $55 million. The company posted GAAP earnings of $1.21 per share and adjusted earnings at $1.82 per share, with the difference explained by both amortization charges and stock-based compensation expenses.
On top of this earnings power, SPS has grown net cash balances to a quarter of a billion, at nearly $7 per share based on 37 million shares outstanding. While 2022 sales were set to rise 15% to $444 million and adjusted earnings are seen up to $2 per share, it were GAAP earnings which were actually seen down a few pennies on the back of higher stock-based compensation expenses, a dreadful outlook.
With operating assets trading near $100, or $3.7 billion in actual dollar terms, the resulting 50 times adjusted earnings multiple looked very rich to me. After all, operating assets were trading around 8 times sales and 70 times realistic earnings of around $1.50 per share. With shares holding up well compared to other e-commerce players, I was quite cautious, driven by valuation concerns.
Doing Very Well
After a difficult summer for the market, and technology and e-commerce stocks in particular, I am puzzled to see shares now trade at $133, marking actually decent gains since May.
The reason for the solid performance has to do with a resilient second quarter earnings report, as well as 2 nice bolt-on deals being announced in the meantime. In July, SPS announced the purchase of GCommerce, an EDI provider for the automotive industry. The company paid $45 million to acquire this business in a transaction set to add $7 million in sales in the first year after closing, set to add $2.5 million in EBITDA, indicating that a relatively full valuation was paid.
Later that month, SPS posted a solid 15% growth number of the second quarter. Revenues rose to $109 million despite the impact of a stronger dollar and softer e-commerce growth, an achievement which looks quite solid, with adjusted earnings up seven cents to $0.53 per share. GAAP earnings came in at $0.29 per share and with most of the discrepancy resulting from stock-based compensation expenses, I am focusing on the GAAP earnings.
Net cash balances rose to $259 million, equal to $7 per share. Following the strong results, the company now sees full year sales around $447 million, with adjusted earnings seen at a midpoint of $2.14 per share.
In October, SPS announced the purchase of InterTrade Systems, a provider of product, information and transaction data exchange in a $49 million deal. With an $8.5 million revenue contribution and half a million EBITDA contribution in the fiscal year 2023, multiples look elevated, albeit that EBITDA is set to rise to $2.5 million in the fiscal 2024.
The net impact of the two deals means that net cash will fall to roughly $160 million, as some $15 million will be added to overall sales, adding about 3-4% to total sales going forward.
And Now?
Truth is that recent deals look a bit steep from a valuation point of view, yet at a combined less than $100 million price tag, the valuation is full but not a gamechanger, with a market value of around $5 billion for SPS at large here.
The driver for the shares is the fact that the company is actually raising the full year outlook here while many peers and clients are cutting their guidance. Despite this relative strong performance, overall valuations get really rich again as the improvement in earnings power is modest, and focus on adjusted earnings instead of real GAAP earnings. I like SPS Commerce’s performance, yet the overall valuations remain far too demanding for my taste.
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