Stamps.com Q1 '19 Recap: The Good, the Bad and the Ugly

It was déjà vu all over again. Much like last quarter, Stamps.com (STMP) delivered results ahead of Street expectations. Unfortunately, Q1 ’19 results were similarly overshadowed by negative developments impacting revenue streams associated with the United States Postal Service (USPS), prompting management to cut its outlook for the year. As depicted in the table below, revenues, adjusted EBITDA and non-GAAP EPS all exceeded Street expectations. If not for a higher than modeled tax rate, which reduced non-GAAP EPS by $0.21 relative to our assumption, Stamps.com would have also exceeded our Street-high estimates top to bottom.

Considering the loss of commission revenues in the company’s first quarter since ending its exclusive relationship with the USPS, we were encouraged to see positive, albeit modest, revenue growth of 1.8% Y/Y and an organic decline of 8.0%, which was less than the double-digit decrease we projected. However, much of the top line upside appears to have come from lower margin Global Advantage Program (GAP) revenues with lower operating expenses more than making up for the unfavorable mix. Key customer metrics were mixed with paid customers and churn short of our expectations, but offset by higher average revenue per user. Worth noting, however, was the impact of the lost USPS commissions on the paid customer count and churn as the company excluded negotiated service agreement (NSA) holders and other high-volume shippers that previously saw fees waived as Stamps.com received commissions directly from the USPS for those volumes. Although management previously indicated a 3% surcharge on those clients would be assessed going forward, their exclusion from the paid customer metric indicates the company has yet to move forward in that regard and may have other motivations for ensuring those relationships remain intact. We believe the paid customer count would have been relatively flattish Y/Y adjusting for those customers, which considering a likely decline in mailing subscribers implies growth in the number of shipping subscribers.

Of course, it’s hard to ascribe much value to the quarter when we were once again shellacked by guidance. This time, the company’s indirect revenues from the USPS have come under fire. As reflected in the prior table, the anticipated impact to this year is currently estimated at $10.0-$30.0 million on the top line and $15.0-$35.0 million on adjusted EBITDA. We note that guidance for non-GAAP EPS now assumes a tax rate of 40% versus 30% previously.

Delving deeper into the guidance bombshell, management was only recently made aware by reseller partners that the USPS is attempting to renegotiate the discounted rates available to them, which in turn affects the amount of revenue share available to Stamps.com. At this juncture, the terms offered point to a decline of as much as $30.0 million in 2H ’19. To pour more salt into the wound, management’s understanding is that the margin available to resellers compress further in FY ’20 and FY ’21 before stabilizing thereafter. Given these conditions, there is considerable uncertainty in how the resellers respond and whether the program may even exist in the future. While management declined to specify the magnitude of the affected revenues, we estimate a maximum of approximately $200.0 million, which we arrive at through a fairly simplistic assumption of a blended monthly subscription ARPU of approximately $19.00 as well as by considering more complex scenarios in which reseller margins compress to 35% this year and decline 10 percentage points in each ensuing year through FY ’21. The latter analysis implies a roughly 30% decline in available revenue share dollars in each of the first two years, so assuming a $60.0 million annualized loss suggests $200.0 million in revenue at stake. That said, we think the odds are good that subscription ARPU is higher than assumed and our scenario analysis is overly conservative, suggesting the potential risk may be lower.

At the risk of stating the obvious, there are a myriad of upside and downside scenarios both near- and long-term depending on the terms of the renegotiated reseller agreements as well as Stamps.com’s ability to secure agreements with other carriers to replace its lost revenues. As we only publish one set of estimates, we have opted to take a conservative tact in which we remove $30.0 million in revenue in 2H ’19 with no offset in reduced expenses. For FY ’20, not only have we accounted for a full year’s worth of renegotiated rates, but we have also assumed no impact from new economic arrangements, despite our view that one or some should materialize by then. However, we have also reduced our sales and marketing expense assumptions for the out-year to account for the likelihood that management would reduce customer acquisition spend if no new carrier agreements were secured by then. We note that even prior to its push into high-volume shipping, Stamps.com had already demonstrated the potential for mid-20% to 30% adjusted EBITDA margins. Our FY ’20 estimates currently reflect an adjusted EBITDA margin of 20.1%.

Given the haircut to our projections and the uncertainty wrought by the latest USPS developments, we reduce our price target from $150.00 to $56.50. Our revised target represents a FY ’20 EV/EBITDA multiple of 10x, at the lower end of the company’s historical trading range. While we would argue that our approach leaves considerable upside potential should the company strike a strategic partnership in the near future, we recognize that investors may only be interested in whether a floor will be reached when shares open for trading. In this regard, ascribing a multiple of 3x to subscription revenues ex-MetaPack, which we estimate in the neighborhood of $170.0 million; leaving MetaPack’s valuation at the purchase price of $230.0 million; and adding back the company’s net cash yields a price of nearly $44.00, which we consider a level worthy of backing up the truck. Although no longer reflected in our estimates due to the lumps we have already taken, we still see a new strategic partnership as a major catalyst for shares. While details remain sparse, the company’s willingness to maintain high levels of investment for the time being and defer a surcharge on NSA holders suggests confidence that a deal is there to be had. The Board’s decision to reduce the scale of its previously authorized buyback program detracts from that to an extent, but we believe that was done in an abundance of caution to ensure no fears are raised regarding the company’s liquidity situation if the USPS reseller program does in fact go away.

Our Q1 ‘19 variance is available here and our updated model is here.

Disclosure(s):

The analyst, a member of the analyst’s household, and/or an account in which the analyst exercises discretion hold(s) a long position in the common stock of Stamps.com (STMP).