[I started to post this as a reply to another thread, but figured it should warrant its own discussion…]
Alright, I skimmed the majority of the 256-page Elastic IPO prospectus and read certain sections in their entirety. Exhausting… but I was very interested in this company and what it does and, more importantly, their financials. Now, I have some observations and maybe a few questions:
For those who have no idea what Elastic does, a quick introduction:
Search is foundational to a wide variety of experiences. Elastic makes the power of search—the
ability to instantly find relevant information and insights from large amounts of data—available for a
diverse set of applications and use cases. (marketing blurb direct from their IPO prospectus)
Translated into practical English: they’re the engine behind how a company like Uber can quickly find the car nearest you, or how Tinder matches people together or how a large company like Sprint is able to filter through billions of log events daily to monitor their website performance issues and outages. Basically, they have a handful of “modules” that handle ingestion of data (products called “Beats” and “Logstash”) and reporting of metrics, application performance monitoring (APM) info, and other business and security analytics (using Kibana, an open source deal, as the visualization layer). Ostensibly, there would be some overlap with companies like Splunk, Alteryx, Hortonworks and Cloudera, and New Relic. All of this can be deployed locally inside a customer environment, or via cloud offering, and looks like it is very user- and developer-friendly to actually deploy.
They only have 1000 employees (or just under) as of July 2018. The company was incorporated in the Netherlands, but its HQ is in Mountain View, California (with a Delaware incorporation for US “Inc.” purposes). They have 5,500+ customers in 80+ countries (up from 2,800 a year ago). Majority of their revenue is from the United States (61%) with the remaining 39% from elsewhere in the world.
Now to the IPO itself…
The IPO is for 7,000,000 shares, but there are another 43,000,000+ already “assigned” through other means to insiders and employees (options, RSUs, etc.) and a total of 70 million that will be outstanding after IPO. With that much already locked up, it seems almost imminent that the share price has to fall as they’re sold off – the average exercise price of almost 24M of those shares is just $9.48/share. Not to mention, that 7M represents less than 20% of the whole, so just understand that there’s no effective voting power in ownership, if that’s of concern to you. (Another 1.05M shares could get bought by the underwriters, at their option, on top of the 7M.)
Current CEO Shay (pronounced “shy”) Banon is relatively “new” to the position. He’s a co-founder and actually the original creator of all of the core Elasticsearch “stuff,” but from 2012 to mid 2017, Steven Schuurman (another co-founder) was CEO. Not sure why the change – perhaps Mr. Schuurman didn’t want the job going into IPO territory, or maybe he wasn’t the right face guy for an upcoming IPO, or maybe he has a secret past or who knows… He’s still a member of the BoD, though.
Revenue breakdown is split between recurring SaaS subscriptions (billed annually) and professional services. The PS piece is growing, which would seem to mean that customers need and are willing to pay for deployment help, most likely on larger analytics projects. Still, PS revenue is less than 10% of the total, and has dipped as low as 7% in multiple quarters.
A quick rundown on past quarters’ select financials (unaudited, pg 90 of the prospectus at https://www.retailroadshow.com/NrsService/api/retailroadshow… helps) – all numbers in thousands, QoQ/YoY math is mine so check for errors:
**7/16 10/16 1/17 4/17 7/17 10/17 1/18 4/18 7/18**
**Revenue** $16,572 21,305 23,128 27,172 31,644 37,038 41,681 49,572 56,644
(QoQ change%) 28.6% 8.6% 17.5% 16.5% 17.0% 12.5% 18.9% 14.3%
(YoY change%) 90.9% 73.8% 80.2% 82.4% 79.0%
**Gross Profit** 12,629 16,915 17,948 20,840 24,230 28,078 30,915 35,972 41,087
**OpEx** 20,924 23,673 39,591 31,316 33,404 35,204 43,374 55,207 59,502
**Operating Loss** (8,295) (6,758) (21,643) (10,476) (9,174) (7,126) (12,459) (19,235) (18,415)
**Net Gain/Loss** $(9,504) (8,474) (22,221) (11,769) (9,967) (8,027) (13,330) (21,403) (18,578)
**Stock-Based Comp** 1,098 1,195 15,087 1,506 2,254 2,770 3,554 4,164 5,665
I suppose you can draw your own conclusions, but revenue growth appears to be slowing a little to me, and OpEx and SBC are climbing. Their fiscal year ends in April, by the way, so FY18 encompasses May 2017 to April 2018, inclusive. Quarterly losses are also increasing along w/ the OpEx spend. Some of this is “land and expand” I assume, but it’s hard for me to see how, when and where those costs might either drop or be offset by higher revenues/profits.
[Side note: I’d love to know what happened in January 2017 w/ stock comp. It wasn’t like they had a blowout quarter compared to the one prior.]
A lot of the prospectus is on their risks and all the reasons they might never be profitable. Some of that is boilerplate, I’m sure, but the numbers above are a little more tangible to me in that regard. Net losses continue to mount, and this IPO isn’t going to save that – 7 million times $27.50 is only $192 million, and that barely covers the $183M of liabilities on the books already.
It seems like they have some knobs they can use to fix this, such as raising their prices, especially for professional services. If they offend customers, their recurring revenue/re-subscription can die off, so I imagine they’re reticent to do that this early in their lifespan (they started in 2012, so still verrrry young). They can reduce expenses, but that might mean layoffs and all the inherent survivor risk that entails – disenfranchisement, attrition, turnover, re-hiring costs, etc. They can add more offerings, either organically or through acquisitions (they’ve bought 2 or 3 companies already) and increase the value proposition, but that costs up-front money that puts them further in the hole.
Share offering is expected to be $26 to $29/share, so let’s assume midpoint of $27.50. With 70 million shares in play somewhere, that would give Elastic a market cap of $1.925B (I’m being very generous here). Against annual losses of $160M and growing, no less. Roughly estimating, that puts the Price/Sales at a hair over 12 (!!).
Net-net, the interest level I had for ESTC is greatly diminished after looking at the numbers. They say their TAM is $45B, but looking above, it will be costly to expand to capture even 1/3 of that.
Someone else seeing something I’ve missed? Should I be ignoring the losses and focus only on the recurring revenue and number of total customers? Subscriptions account for 93% of their revenue, and their customer retention and expansion rates are high (142% at end of July 2018 and over 130% for each of the last seven quarters). So maybe that’s enough growth to offset the current losses and … but I try not to bank on hope.