What is the value of a personal data monopoly?
This is the first article of what we hope to be many at Hanging Off the Edge (HOTE). We are two intellectually curious people who just couldn’t ignore the positive outcomes of our conversations in the form of returns on our investments in different public equities. We follow the basic tenets of value investing with a twist. All articles will include a first-hand account, call it our primary research, from someone who either used the product or service, or in the case of a market someone who has transacted sustainably inside it. Zach has the generalist knowledge of business with an emphasis on technology from both experience in the industry and spending every spare moment learning. Joseph is in the wealth management business, and has managed a portfolio since he was 16 years old, which has led to a deep understanding of traditional fundamental and technical analysis. Most of all this and all of our knowledge we share is the product of great conversations over a long period of time.
ZoomInfo (ZI) is an ideal case of which to start, because it went from IPO target to one of our highest confidence investments. Below is a summation of the analysis we performed in order to move it from a momentum trade to net long.
For ZI, data is their power source, their cornered resource. It provides value to the customers as you’ll see below and thanks to network effects and a regulatory moat it provides a barrier to its competitors.
Exactly what is the role of ZI? Let’s explore a day in the life of a B2B sales development representative. Zach was in sales development with Marketo from 2015–2017 and then from 2017–2018 at UserTesting. As an SDR, BDR or inside sales rep from a strategic standpoint, your job is to create outbound engagement through personalized content delivered to the right people and ultimately to book a meeting with qualified individuals. Qualified usually means some rendition of BANT (budget, authority, need, timeline). With tools like ZI you can create relevant content, and serve it up directly to your best prospects and decision makers. ZI not only provides contact info for your prospects, but it also has job title and org charts (budget and authority) and internal projects (need and timeline). The stickiness of the product increases as your sales team uses it more. They become more reliant on it as they see more success with it and expect the same quality of data as they move to new companies.
This does create network effects around the data. However, it is commonly misunderstood that more customers means more data about those customer companies. While more customers equates to more and better data, that data is not customer-specific. As more customers use ZI, sales reps from those customers can easily make requests for both data not available and to change incorrect data. An example of inaccurate data is when a prospect changes jobs and/or an email or phone number doesn’t work. These requests can be made inside ZI’s software. ZI then has a team of 300 researchers that scour the internet and call into these companies to confirm the accuracy of the data.
What is the competitive landscape? Since Zach has been out of sales for over 2 years now, in researching for this article he made sure to reach out to his current head of sales enablement and his former colleagues still in B2B sales. The answer was uniform. ZI is currently the best and only tool that provides contact and other data at this level.
Looking into multiple stock analysis sites, the large disconnect in what ZI does is evidenced by competitors listed. For instance, take a look at ZI’s listed competitors from MarketBeat below. Other than being software and sharing a board member with one, none of these companies even sell to the same buyers. The closest we could find is a 50 person company out of Philly that hasn’t even raised a seed round. Let’s see how long it takes them to catch up (or just get acquired by ZI).
In terms of Total Addressable Market (TAM), pursuant to ZI’s S-1, “Using the ZoomInfo platform, we have identified over 800,000 business that sell to other businesses and have more than ten employees, which represent our potential customers. Our current customer base of over 14,000 implies penetration of less than 2%.”
The lack of current competitors and such a large addressable market provides ZI numerous meaningful opportunities to continue growing.
What about privacy? Privacy is a concern any time personal data is involved. In fact, this was initially our biggest concern, so we asked ZI about it. This was their response.
“We provide active notification to all of our contacts in the European Union and California — even where we’re not required to do so. We’ve expanded this notification program across our entire database so that business professionals in every jurisdiction have the same notice and choice. We have a section of our website dedicated exclusively to privacy (https://www.zoominfo.com/about-zoominfo/privacy-center) where people can see and update their information and learn more about our privacy policy and guidelines.”
The above response when coupled with a non-existent competitive landscape seems to indicate that regulation is not a major concern. Rather, it may act as a barrier to new entrants, thus creating a moat. If ZI is the only one providing this kind of data at this scale, then they are in a position to write the playbook on it. Privacy legislation is in its infancy, so the proverbial bomb could drop at any moment.
Now that we’ve taken a small peak into their competitive advantage as they support the bullish case for their business model producing defensible value for customers, let’s take a deeper dive into the fundamentals of ZI and how it compares to the industry as a whole.
Fundamentals
ZI is a high-growth company that is richly valued due to the premium investors are willing to pay for future earnings. When valuing these high-growth companies traditional value metrics are inadequate and likely to lead to missed opportunities. For instance, if you use value metrics you likely won’t invest in a company like ZI because it has a triple digit PE. However, if that company is growing earnings at >30% YoY, it doesn’t look so expensive. Ultimately, when evaluating a high growth company you should also take into consideration the following nontraditional value metrics.
First, high double-digit growth is important for any company but required for newer companies who are reinvesting constantly in growth. The quality of that reinvestment is ultimately what determines whether the revenue will grow at a sufficient rate to justify a high multiple.
In Q3 2020, ZI’s revenue grew 56% YoY as compared to the US Interactive Media and Service Industry revenue growth of 16.3% and the US market of 10%. https://simplywall.st/stocks/us/media/nasdaq-zi/zoominfo-technologies.High revenue growth rates of over 50% are the reason investors are willing to pay a premium for this stock.
Retention is a key metric that determines the certainty of future revenue for B2B software companies. Net Retention Rate (NRR) measures the money that existing customers spend in year 1, and compares it to the money the same group of customers spend in year 2. Doing this provides a measure of the effect new customers have on revenue. Additionally, it provides an understanding of the company’s ability to grow existing customers through cross selling and upselling new products. An NRR of 100% means that customers are staying with the company; however, if investors can find a figure above 100% they are also adding more products over time. ZI only releases retention on an annual basis, and in 2019 it was 109%. Across different business units, small was in the mid to high 80% range, mid-market was in the low to mid 110% range, and enterprise was in the mid to high 120% range. Therefore, ZI’s customers are not only staying with the company, they are growing as well.
Finally, earnings are important to determine the long-term sustainability of any company, growth or value. Earnings are forecast to grow 113.89% year over year while revenue grew by 66.9% over the past year. ZI is forecast to become profitable over the next three years. ZI’s short term assets of $421.4 million exceeded short term liabilities of $247.5 million. Although its short term assets of $421.4 million do not cover its long term liabilities of $980.5 million, the company has sufficient cash runway (how long cash will last) for more than 3 years if it maintains its current positive free cash flow level, due to the free cash flow being positive and growing by 53.9% per year. https://simplywall.st/stocks/us/media/nasdaq-zi/zoominfo-technologies
If ZI continues to grow its revenue and improve its margins as it has over the past year then ZI will likely become profitable over the next three years. In turn, there is a high likelihood ZI will both survive and thrive.
Our analysis combines the above (fundamentals, competitive landscape and risk) to make a decision on whether to buy public equities in a particular company and the total % of capital we want to allocate towards it. We use a technical analysis to determine when and how much to invest at a particular time. We taper our buying based on how close it is to support, whether it is close to resistance and at what relative volume it is trading.
Technical Analysis
ZI went public on June 4, 2020; thus, there is limited historical price data and these technical price ranges may be less reliable than an older company.
Support is the price under the current level that helps us determine at which price it could bounce off to higher prices or fall through to a new range. We generally look to add a small position when it approaches support, and if it closes below we are cautious and look to make a larger investment at the new support.
ZI does appear to have support at $36.85. ZI bounced off this price level, to the upside, eight days out of 17 between the dates of August 11 and September 2. After dipping below support from September 2 to September 25, more recently it built up more support as it bounced off of $37 on October 30th, November 2nd, November 3rd, November 9th, and November 10th.
Resistance is the price above the current level that helps us determine at which price it could bounce off to lower prices or break through to a new range. We generally look to sell a small position when it approaches resistance, and if it closes above we are bullish and look to make a larger investment as it builds new support.
ZI’s price is showing resistance at around $47.40, which is where it is as of the writing of this article (11/25/20). ZI was rejected by $47.40 three times in August and rejected again on October 7th and October 21st. With the price currently at resistance, the short-term technical patterns show that it could breach through, especially if it provides confirmation by closing above resistance ($47.40) with any meaningful high relative volume (>2.5 x avg. daily volume: 2,058,495). Then, ZI will likely show minimum resistance around $55.
Conclusion
ZI is providing a novel offering to B2B sales teams, with limited competition and is protected by network effects of growing users and privacy regulation. From a fundamentals’ perspective, in comparison to high growth tech and software companies it is fairly priced. If it continues on this path, it will likely become a formidable ongoing business to keep an eye on.
DISCLOSURE: Authors are currently long ZI as of November 25, 2020.
No Investment Advice
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