DMRC - Digimarc Seeks Platform Growth Despite Restructuring Drag

Summary

• Digimarc recently reported its Q4 2022 financial results.
• The firm provides digital product identity and verification technologies.
• DMRC has produced slowing revenue growth amid a substantial restructuring as it seeks to streamline its operations.
• I'm on Hold for the stock until we see reignited revenue growth and reduced operating losses.

A Quick Take On Digimarc Corporation

Digimarc (DMRC) reported its Q4 2022 financial results on March 1, 2022, missing revenue and beating EPS consensus estimates.

The firm enables product digitization and identity verification worldwide.

Given its slowing revenue growth and the effects of its restructuring, which can be disruptive to its business, I'm on Hold for DMRC for the near term.

Digimarc's Overview & Market

Beaverton, Oregon-based Digimarc was founded to develop product digitization technologies that use QR codes and digital watermarks to confirm product authenticity, reduce counterfeiting, improve supply chain traceability and increase the accuracy of recycling efforts.

The firm is headed by President and CEO Riley McCormack, who was previously the founder and PM of Tracer Capital Management and a partner at Coatue Capital.

The company's primary offerings include the following:

• Validate - proactive brand protection

• Recycle - sorting for plastic recycling

• Engage - DTC digital communications

• Retail Experience - retail product watermarks

The firm focuses on the industries of CPG, apparel, tobacco and fresh foods and acquires customers via its in-house sales and marketing efforts as well as through partner referrals.

According to a 2023 market research report by MarketsAndMarkets, the global market for digital identification was estimated at $27.9 billion in 2022 and is forecast to reach $70.7 billion by 2027.

This represents a forecast CAGR of 20.4% from 2022 to 2027.

The main drivers for this expected growth are a rise in ID wallet solutions and strong growth in online service across a range of industry verticals.

Also, the integration of machine learning, AI and blockchain-based technologies may present vendors with opportunities to differentiate their offerings with customers.

Digimarc's Recent Financial Performance

• Total revenue by quarter has risen according to the following chart:

• Gross profit margin by quarter dropped substantially in the most recent quarter:

• Selling, G&A expenses as a percentage of total revenue by quarter have followed the trajectory shown below:

• Operating losses by quarter have worsened in recent quarters:

• Earnings per share (Diluted) have remained heavily negative as the chart shows here:

(All data in the above charts is GAAP)

In the past 12 months, DMRC's stock price has fallen 6.8% vs. that of the Nasdaq 100 index's drop of 8.5%, as the chart indicates below:

Valuation And Other Metrics For Digimarc

Below is a table of relevant capitalization and valuation figures for the company:

(Source - Seeking Alpha)

Commentary On Digimarc

In its last earnings call (Source - Seeking Alpha), covering Q4 2022's results, management highlighted renewing its contract with a consortium of central banks, 'extending it out through the end of the decade.'

The company continues to focus on new product development to create new upsell and cross-selling opportunities, gaining customer share of wallet via an integrated platform approach.

Notably, management also recognized the need to streamline its operations as it seeks to reduce operating losses and cash burn.

It announced a restructuring plan in February that expects to reduce its workforce by 17%, resulting in savings of $7.4 million per year once fully implemented.

As to its financial results, total revenue rose 1.4% year-over-year, but subscription revenue grew by 13%.

Management did not disclose any company or customer retention rate metrics.

SG&A expenses remained well above revenue and operating losses were substantial, as were negative EPS.

For the balance sheet, the firm ended the quarter with cash, equivalents and short-term investments of $52.5 million and no debt.

Over the trailing twelve months, free cash used was $45.3 million, of which capital expenditures accounted for $900,000. The company paid $11.3 million in stock-based compensation in the last four quarters.

Management did not provide forward guidance but reiterated that its focus going forward is on increasing subscription-based revenue.

Regarding valuation, the market is valuing DMRC at an EV/Sales multiple of around 11.5x.

The Meritech Capital Index of publicly held SaaS software companies showed an average forward EV/Revenue multiple of around 6.2x on February 23, 2023, as the chart shows here:

So, by comparison, DMRC is currently valued by the market at a significant premium to the broader Meritech Capital SaaS Index, at least as of February 23, 2023.

The primary risk to the company's outlook is a macroeconomic slowdown or recession, which may accelerate new customer discounting, produce slower sales cycles and reduce its revenue growth trajectory.

The company's recent restructuring, which included a major headcount reduction as well as real estate downsizing, was a necessary action, but one that may make it harder for the firm to produce strong growth ahead.

Given its slowing growth and the effects of its restructuring, which can be disruptive to its business, I'm on Hold for DMRC for the near term.

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