Weekly Financial Resources and Capital Markets Roundup: 5/22/2020
Outlined below is a collection of key financial and capital market resources from the week ending 5/15.
“Market ___ on ___ news about ___, ___ index shares ___ by ___%.” Pick a mood, index, direction and percentage and you might have a future as an editor for any major newspaper—this is the “Mad Libs” like template the last few months of news has followed. Headlines like these (i.e. markets slide amid COVID-19 recession and trade war fears) have marked a far from straight flight up, but since writing “we strongly caution against believing that the worst is over” on March 27th, the Dow, Nasdaq and S&P are indeed up by an average of 18%.
The SaaS index alone is up 43% and has hit new all-time highs. Accounting and opacity of non-GAAP metrics aside, we believe SaaS companies are terrific businesses that deserve premium valuations. They operate in large markets with strong defensibility, incredible economic models, etc. But we also believe that doesn’t justify today’s prices – a great company doesn’t necessarily make a great investment opportunity– given the performance expectations these prices imply.
Per Expectations Investing, “…you can read stock prices and estimate the expectations [for company performance] that they imply…you will earn superior returns only if you correctly anticipate revisions in those price-implied expectations… businesses with excellent long-term prospects do not always deliver superior shareholder returns. If a company’s stock price fully anticipates its performance, then shareholders should expect to earn a normal, market-required rate of return. The only investors who earn superior returns are those who correctly anticipate changes in a company’s competitive position (and the resulting cash flows) that the current stock price does not reflect.”
Now imagine that “the expectations for future financial performance implicit in the share price are represented by the speed of the treadmill… for outstanding companies the treadmill is moving faster than for anyone else. It is difficult to deliver at the expected level without faltering. Accelerating the treadmill will eventually become impossible.” Many companies well positioned for sustained growth are not necessarily well positioned to deliver compelling investor returns.
Out of the 29 SaaS companies reporting Mar 31st / Q1 earnings, 22 beat their estimates but also withdrew or lowered their guidance for the full year (source). There is clear disconnect between investors and SaaS management teams broadly at present. Management won’t stand behind guidance yet investors continue to project higher and higher expectations via valuation (the 43% rise vs. late March and new all-time high index level).
The SaaS treadmill is moving at warp speed (the expectations for future growth so extreme) that under current conditions it seems inevitable that it will be impossible to keep accelerating (delivering strong performance). It won’t even be an earnings miss, but rather a beat that isn’t quite big enough that causes price to fall. The positive but cautionary update to our view is that while significant runway for growth remains, the market has already priced that and more in. The worst isn’t over for investor returns—not necessarily company performance.
The ninth season of OpenView’s BUILD podcast is live! Episode one features Dave Grow, President and COO at Lucidchart. In this episode OpenView’s Blake Bartlett and Dave discuss the concept of “growth”, what role each department plays in the product-led engine, and the shifting buyer persona found in a self-serve model.
On the topic of business planning, we enjoyed this article from Michael Mauboussin (co-author of “Expectations Investing”), BIN There Done That, in which he describes his “BIN” model (BIN = bias, information, noise) for forecasting, and provides a framework for reducing noise, reducing bias, and increasing information to improve business (and investment) forecasting and decision making.
Paycheck Protection Program
All finance leads should note that there is an opportunity for companies to defer employer payroll taxes through the end of 2020 per the CARES Act. The deferral may be beneficial depending on total dollar amount and number of employees at a given company.
Note that if a company received a PPP loan and successfully applies for forgiveness this deferral would no longer be available. Here is the link to materials from Goodwin which include a summary of the income tax provisions under the CARES Act in more detail. For companies that received PPP loans the loan forgiveness application can be found here. Companies should consult counsel to review both payroll tax deferral and forgiveness applications.
Capital markets Resources
On Monday, the markets perked up at promising news from Moderna on their COVID vaccine efforts. On Friday, the market capped its best week in a month. Per Raymond James, US equities were largely able to shake off the latest geopolitical spark [of renewed trade tensions], possibly boosted by Dr. Fauci’s upbeat update on recent vaccine data and Senate Majority Leader Mitch McConnell reporting that another coronavirus relief package was “not far off.”
It could be retail investors armed with capital but little knowledge, or even social media (per Bloomberg, “Elastic shares jumped 11% intraday…amid positive social media commentary Friday…”), but this week was another reminder that the markets are indeed complex adaptive systems engaged in real time information processing. All key indices closed the week up and erased last week’s losses (SaaS +4.58%, Dow +3.29%, NASDAQ +2.86%, S&P 500 +3.20%).
For the first time in a period of economic crisis the world has insight into impact (and recovery) we’ve not historically had, all enabled by software companies—home buying trends from RedFin, traveler preferencesfrom Kayak, sales pipeline metrics from Hubspot, credit card swipes via Womply, and other proprietary data from Quandl.
A return to normal levels of GDP, the sum total of all money being spent in exchange for goods and services, is what will signal “recovery”, not the daily changes in financial markets. We’re beating a dead horse by noting that the stock market is not the economy, but it will be important to observe how the market adapts to information from these new sources as states reopen.
What else we’re reading
SaaS valuation multiples were flat at 9.8 (vs. 10.1x last week) 2020E revenues at the median to open the week. What the FAANG is Going On?
“The path of least resistance is the path of the loser,” according to author H.G. Wells. Yet time and time again we see that humans are all guilty of opting for the easier path.