Posted 01/22/2020

Qumu (068040 KS)

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Quality

I am recommending a long equity position in recognized franchisee Qumu. Qumu is a ridiculously cheap stock which at a stock price of $8.30, should generate $0.40 to $0.85 in fully taxed distributable earnings on my 2018 estimates. I note that there are a number of reasons why I think the equity is worth $10 to $12 per share, some of which are not fully appreciated by the market. I address those issues below. However, I also think it is worth at least $2 when combined with the cash generating potential of the business. However, there are scenarios where the stock could be worth in the high $20s. While the stock has been on a wild run, Qumu is a platform of incredible growth and opportunity, operating in the most crowded and fragmented of software categories. What makes the story compelling?

1) Recent IPO which is now unlevered
2) Large cash balance which should provide runway for future capital returns
3) Unencumbered by a long held CEO with no near term maturities
4) Stable, recurrent maintenance free of mine train costs
5) Ready-to-release growth within existing customer programs

While investors tend to shy away from technology companies tied to ever-expanding technologies, Qumu by design has no need for additional products or technology. It is a platform where technology can be a platform for profitable growth. Early stage start-ups or small enterprise clients can utilize the platform to launch offerings with no need for technology to replicate anything.

Qumu raised $9 million at a $250 million valuation and has capital currently in excess of $30 million of investments. This is not invested in IP, IP value, or long term payments. Qumu allows very early stage technology companies to market their solutions to their existing customers and build a recurring revenue model without having to build an e-Commerce platforms. They don't need an e-Commerce platform to put together their offering. While they are perpetuating a model in which the CIOs and IT departments are the last buyers of solutions, they offer these customers a third (or even a large first) option: a venture backed solution provider with private equity backing. This pattern has been a major advantage for Qumu and a major disadvantage to their competitors in similar situations.

2) Reasonable capital structure

To allow Qumu the flexibility to pursue their vision, through May 31, 2016, to acquire preferred stock in the common and preferred markets within the issuances to fund their common stock offerings, Qumu was forced to increase their borrowing base by 76%. It is fair to say that this did not sit well with the company's conservative management team and board. Qumu has approximately $36.7 million remaining under the current capital structure which covers interest of approximately $3.0 million per quarter. While largest of this is non- amortizing and not due until early 2017, covenants include the following: (i) covenants require that capitalization be in excess of net annual revenue; (ii) senior to quarterly general meeting and annual general meeting; (iii) cannot exceed 60% of invested capital; (iv) excludes from limitation on increases in borrowings any amount which would increase the cumulative deficit in aggregate greater than 10% by more than 25% or any portion of such deficiency that is greater than 25% of principal amount of indebtedness. Qumu is doing the right thing for shareholders by raising this capital, but more importantly giving existing shareholders the ability to take control of their own destiny by purchasing Qumu common stock at prevailing market multiples (i.e., below end of 10% discount). Cash could be raised starting in 2016 at a 25% increase in price/sales assuming a similar sale-leaseback of assets as was done with GetWest Virginia. There are two other board members who would be well suited to manage an LBO, including a permanent CEO with experience in turnaround, corporate finance, and infrastructure. Investments make up just over 10% of the current market cap (approx. $37 million) and total 40 million dollars for a 40% discount to the market value of the company. This discount has been sustained in historically and new equity is still available for purchases at attractive multiples (below end of 10%). My analysis shows that at a 15% discount to the market value of Qumu, an investment today would be worth $3.90, 70% more than today with almost no downside. Qumu's size, rapid growth, diverse product set, and known brand equity make it an attractive target for private equity. On a sum-of-the-parts basis (trailing-transaction, normalized, normalized), the best comps for Qumu trade at an 8x EV/EBITDA. While these comps are not precisely accurate, especially because their business cycles are later than Qumu, a 10x EV/EBITDA multiple is within the historical mean and does not give Qumu full credit for the growth it will experience in the coming years in a number of years. Non-trailing-transaction illustrative way to look at value:

-Qumu is a viable business trading at a 5x EV/EBIT high potential (aka, over-levered) based on current trailing results of $9.1 million.

-So even if you fully shut it down again, the value remaining would be $2 million. EV of current 12% of $7.0 million and applying 2x EV/EBIT (below the historical mean) gets you to $5.6 million. Then, you're looking at another $1.8 million in operating income and include the added profit from the administrative cost cutting results, getting to a fully diluted operating income of $5.4 million.

-Non-trailing- transaction comps trade at 5.0x EV/EBIT and using above multiples on forward estimates for revenue get you to $16-17 million in normalized, unadjusted operating income (without the impact of various overhead allocation assumptions). That takes you to a forward EV/EBIT of 3.8x EV/EBIT. None of this takes into account the ramp of the business in the coming years or the increased net profit margin and additional capital deployed.