ReachLocal is set to price its long awaited IPO today after market close and begin trading tomorrow. Why it took so long between their initial filing and this week’s IPO is between them and their underwriters. Market conditions were much more favorable for new issuers earlier in the year and many recent IPOs have either traded below their offering price or offered below their filing range. Now after months of waiting and multiple amendments, it will be very interesting to see if they are able to price within their filing range and to see how the stock trades.
Regardless, it is great to see a company in the sector go public and we view this as another major milestone for the Local Online Marketing industry. Other recent milestones include Google’s reported offer of over $500 million for Yelp and the subsequent rejection of that offer and a decent volume of smaller acquisitions and investments by consolidators like Deluxe, AOL, IAC, and YPG/Canpages.
It will also be interesting to see ReachLocal’s use of proceeds. At the midpoint of their $17-$19 filing range, assuming underwriters exercise the Green Shoe, proceeds to ReachLocal will be $54.4 million. ReachLocal is justifiably vague on what they intend to do with the cash beyond a $6.1 million payment related to their acquisition of the 53% stake in their Australian operations that they did not already own. Assuming the full $54.4 million in proceeds and taking out the required $6.1 million payment, they are down to $48.3 million from the offering. That should put their total cash balance just under $90 million.
Let’s talk valuation. You can take a look at the graphic I’ve provided that shows valuations of comparable, publicly trading companies. The comparable company group that I’ve selected is composed of companies providing SMB services. One can debate the comparability of these companies, but I believe they are reasonable benchmarks. If ReachLocal continues to grow at the rate that they did Q1 2010 vs. Q1 2009, then the mid-point of the filing range implies an Enterprise Value of about 1.5x 2010 Revenue. If the influx of capital doesn’t accelerate their growth, then I would question management’s ability to execute. Since I don’t question their ability to execute, I’m modeling 75% growth in 2010 and 2011. That puts them at a pretty decent discount to the comp group. Given the fact that there are some dogs in the comp group (I won’t name names), I believe we’ll see the stock trade up tomorrow.
I have one bit of commentary for now on their financials. Their gross profit margins are surprisingly healthy considering their reliance on pay-per-click advertising. It makes me wonder how much of their clients’ dollars actually go toward engine spend. Despite the healthy gross margins, they still aren’t generating positive operating income or EBITDA. That is mainly due to the huge amount of dollars they put toward Selling and Marketing expense (over $76 million in 2009).
Confidence in Their Stock
One more item of note is that on May 18th they released an amendment to the registration statement allowing an existing investor, Rho Ventures, to purchase shares in the offering. This accomplishes two things. First, it sends a message of confidence to the market that an existing investor is looking to increase their position in the stock. Second, it decreases the amount of public float which could create a supply/demand imbalance that will help the early performance of the stock. Well played, Rho…as long as the stock doesn’t drop during their lockup period.
That’s my pregame analysis. Stay tuned for a post tomorrow with a post-game wrap-up of how the deal performed in its first day of trading…
UPDATE: ReachLocal prices at $13/share.
UPDATE 2: The Silver Lining