This is not a value stock in the strict tradition of Ben Graham but I believe it’s a currently neglected misunderstood unlocked value story. My thesis is based on several factors. DWCH’s internationally popular software product has over 500,000 sold licenses in more than 40,000 organizations worldwide. Their large loyal evangelical customer base has yet to be leveraged to its full potential. Over the past ~ 2/3 years the company has been shifting its efforts to larger server base deals as opposed to an over reliance on selling desktop solutions. This shift appears to have helped maintain its consistent positive free cash flow results even as a major Monarch software upgrade has not been available for about 2 years.
The stock has inched up 21% over the past year but posted negative -15% stock price returns for the 3 year prior period. The historical valuation supports the current price trading at a small discount.
Current price = $3.28, Enterprise value = 19.6 million, Market capitalization = 19.3 million
Additional financial statistics to help support current valuation
EV/Sales = 1.08, Cash % Price = 36.20%, FCF/EV = 3.94%, % held by insiders = 46.02% (based on Yahoo).
YOY Quarterly Revenue Growth = -6%, TTM revenue = 18.164 million, only 3.03 million shares in the float
Outstanding shares = 5.95 million, Shares short as % of float = 0.10%, Balance sheet is strong with a no long term liabilities and 7.142 million in cash,
FCF as a % of sales averaged 9.92% annually for the past 5 years with relative strong consistency. FCF/Sales% = TTM = 8.26%, 2009 = 9.53%, 2007 = 6.95%, 2006 = 13.08%, 2006 = .30%, 2005 = 3.81%
Potential Catalyst
Friday 09/09/10 Datawatch reported a newly created seat on the company’s board. Doesn’t sound too exciting but for a tiny BI software entity like DWCH it’s very significant when you can attract proven talent like David C Mahoney. “Mr. Mahoney is a recognized entrepreneur, executive and early stage investor in the software industry. He began his career developing software at MIT Lincoln Labs and in 1973 he joined Data General where he spent 10 years leading the design and development of communications, networking and workstation products. In 1983, Mr. Mahoney founded Banyan Systems, the first software company to create a comprehensive enterprise networking solution that integrated mainframes, minicomputers and personal computers. Within one year, the company delivered the innovative VINES Operating System, Banyan Network Server and Streettalk, the first commercially available enterprise wide directory service. Banyan went public in 1992 and grew its revenues to more than $150 million. Under Mr. Mahoney's leadership, the company later created Switchboard, an Internet white/yellow pages service which grew to become jointly funded by AOL and CBS and went public in 1999.
In 2003, Mr. Mahoney became CEO of Applix, Inc. and led a restructuring that enabled the company to attain a sustained growth rate in excess of 35 percent annually and resulted in a successful merger in 2007 with Cognos, Inc. During his tenure at Applix, the company achieved a twenty times increase in market valuation.”
Mr. Mahoney said, "I am very excited to be involved with Datawatch at this time in its history. Businesses more than ever require innovative, cost effective means to enable them to make good business decisions. The company offers a truly unique value proposition to its customers with its suite of easy-to-use, rapid time to implementation BI solutions. Datawatch has a solid infrastructure to support domestic and global opportunities in business intelligence, data transformation and analytics. I look forward to working with the Board of Directors to accelerate the company's growth and the adoption of its BI solutions."
I believe Dave Mahoney will become a hands on member of the Datawatch team and leverage his knowledge, contacts and proven BI success to move DWCH from a tiny 19 million market cap with no debt, and positive FCF to a more relevant player in the BI space dominated by multibillion dollar players with their proven unique solutions and existing penetration of over 40,000 organizations.
Mr Mahoney gave profound credibility to his strong belief in Datawatch’s unique solutions by recently purchasing 100,000 shares with his own money for $275,000! His current ownership is now at 127,508 shares.
Cognos took over Applix when Mr Mahoney was the CEO after Applix proved they could win large BI deals over Cognos. IBM has now taken over Cognos. Could Mr Mahoney have a strong impact on the future success of DWCH.
Datawatch Corporation is an IBM Advanced Business Partner. Monarch RMS web-based report mining BI solution for IBM DB2 Content Manager OnDemand is certified as IBM-server proven and industry-optimized. They have many other prestigious partnerships.
Another powerful catalyst is the near term inevitable upgrade of their flagship product Monarch. Historically sales and profits increase disproportionally following the upgrade for several quarters. Upgrades occur about every two years and the current status of the release of Monarch 11 seems over due. But even with the end of the upgrade cycle they have strong FCF and profits, current EBITDA/EV = 8.18%.
Risk
Larger enterprise deals are difficult to close and the stock remains stagnant. Software is mature with little opportunity to add new must buy functionality.The newly created board position for David Mahoney’s is unable to improve Datawatch’s stature in the BI marketplace and wake up other large BI vendors to the value of Datawatch as an must have cheap acquisition target to integrate or enhanced their existing solutions
I don’t believe the stock in the short term will move significantly and may have a weak quarter without a new upgrade. But if you have a 3 year time horizon it may offer above average returns.
Long DWCH as part of a highly diversified portfolio
