Results buy yachts
9/4 OpenView Capital Markets Roundup
Per CNBC, the Dow fell 1.82% this week, for its worst weekly performance since June 26 and second negative week in three. The S&P fell 2.31% this week, breaking a five-week win streak with its worst weekly performance since June 26 (with Salesforce the biggest drag on the index). And last but not least the Nasdaq fell 3.27% this week, breaking a five-week win streak with its worst weekly performance since March 20 when it fell 12.64%. As I said in March, the worst isn’t over:
We caution against believing that the worst is over. Models for the economic impact and recovery from COVID-19 are just that - models - not based on actual economic data or company earnings reports. “The markets are complex adaptive systems engaged in real-time information processing, constantly adjusting to changing expectations…as circumstances and conditions and information warrant.
I kind of backed off this stance as the markets rocketed up and tech stocks exhibited a Teflon-like ability to shrug off (and in many cases seemingly benefit from) all of the bad news each day. And I eventually acknowledged that given all the macro uncertainty (and Fed activity aside), it was obvious that as we consider SaaS’ combination of balance strength and cash flow predictability, many might be treating the stocks as a safe haven. SaaS companies will be here in a few years and the equity won’t go to zero in the worst case. But my concern was that SaaS will act as a high yield savings account in the bad times and an ATM in the recovery for tourist capital. And as CNBC noted after market close yesterday, “cyclical names and reopening trades remained the bright spot in the market with economic recovery picking up steam,”… and tourist capital flowed out of tech.
But it wasn’t just a market flight to safety driving the tech rally. Yesterday the Financial Times broke a story that tech has been the beneficiary of a “tail wags the dog” feedback loop driven by Softbank’s aggressive options purchases!
In “Thinking in Bets,” Annie Duke discusses the idea of resulting, or the human tendency to equate the quality of a decision with the quality of the outcome. As I said last week - we’re all right for the wrong reasons sometimes. As Duke outlines in her book, Pete Carroll’s decision to throw on the one yard line in Superbowl XLIX was the correct one. He called a play that data proves had a ~100% chance of turning out as either a game winning TD or a clock-preserving incomplete pass. Carroll has been vilified because of the result of the play, but he made the right decision.
It is challenging to separate the results (incredible equity returns) many investors have realized over the last few months from the illogical decisions for investing: “stocks only go up” or “don’t fight the Fed”. The risk / reward profile of SaaS stocks has been out of whack for many months and as stories like that of Softbank’s activity emerge it is increasingly clear that many of the moves we saw were the output of results-chasing speculation, not logic-driven decisions (theses) about companies or markets. We’re all right for the wrong reasons sometimes.
Results buy yachts, but 2020 is just one year and decisions must be made over a lifetime. As with anything, when the decision is correct, we should feel like we did the right thing despite uncertainty and regardless of outcome.
Sales & Use Tax
Sales & Use Tax remains a tricky problem for many software companies. In my M&A advisory days, tax issues nearly killed a few deals when buyers discovered liability and sellers were sitting with a massive tax bill to pay before close. Just this week I received an email from 1Password letting me know they’d be collecting state and local taxes beginning September 14th - which means they haven’t been collecting historically (imagine how big the voluntary disclosure will be)! I am not a tax expert so take this merely as a reminder that SaaS companies need to pay taxes on the software they sell in many states (and localities). And these laws / regulations are changing all the time - here in Massachusetts they changed just four months ago. This blog from Profitwell is a good primer, but tax lawyers should be consulted and software (i.e. Avalara, TaxJar, etc.) implemented in order to assess exposure and correct on an ongoing basis.
The Latest from OpenView
This week on OpenView’s BUILD Podcast, Blake spoke with Christine Itwaru, Director of Product Operations at Pendo. Blake and Christine chatted about:
The role of Product Ops is and how it came into popularity;
When, why and how to incorporate a Product Ops role into your team;
Where the Product Ops movement and community will be 5 years from now.
You can listen to this episode and all episodes from 9 seasons of our podcast here.
Market Update
We covered most of the news from this week above, but SaaS Q2 earnings largely concluded this week with Zoom as the standout. In case you haven’t heard, Zoom generated $663.5M in revenues (up 353% YoY) with 56% free cash flow margins. In an industry that is celebrated for scalability and operating leverage, it is funny to see so many people surprised that a company whose TAM suddenly became the whole world amidst a global pandemic… scaled like it was supposed to? Yes, the performance is great, but that is software. The real question should be, will it persist? Zoom still has no real moat for more than 5 years. I don’t know what Zoom is doing internally, but the sooner they can begin crafting the narrative to position what the business performance will be when we return to work (maybe use some free cash flow to offer free Zoom Rooms or zero interest equipment financing for customers to lock in the companies and most of the seats added this year), the better the stock will perform.
Economic Data
“Large US corporate bankruptcy filings are now running at a record pace and are set to surpass levels reached during the financial crisis in 2009. In total, 157 companies with liabilities of more than $50m have filed for Chapter 11 bankruptcy this year and many believe a lot more will follow.” Even though other economic data steals headlines - whether it is jobs “beating estimates as the labor market continues to heal,” new home sales, personal income / spending, or consumer confidence - companies are continuing to struggle. As a reminder, the stock market is not the economy.
What Else We’re Reading
The public SaaS companies we track closed the week trading at 12.5x 2020E revenue at the median (-1.0x vs. 13.5x last week). “There is a misguided obsession in many tech circles around predicting the future of technology. In contrast, I would posit that predicting the future is actually pretty easy - the hard part is making any money on it." Additional notes from a departing Bernstein analyst. This Investor Field Guide Podcast, Great Migration Public to Private Equity. Decoding Microsoft: Intangible Capital as a Source of Company Growth. We’re Going to Need a Bigger Boat.