VMEO - Vimeo: Rating Downgrade As Bookings Growth Visibility Is Uncertain

2023-11-29 14:18:49 ET

Summary

• Vimeo's near-term growth trends are uncertain, leading to a hold rating.
• Recent Q3 results showed strong adjusted EBITDA, but concerns arise from potential slowdown in bookings growth.
• Challenges in lead conversion and pipeline growth raise uncertainties about bookings growth trend.

Overview

My recommendation for Vimeo ( VMEO ) is a hold rating, as I am not confident in the near-term growth trends of the business. Bookings growth is expected to be weak as it sees headwinds from businesses and a transition in marketing strategy. Note that I previously gave a buy rating for VMEO as I believed the valuation was very attractive at less than 1x forward revenue.

Recent results & updates

My thesis for VMEO had played out well since my post in December 2022. The share price surged past my previous target price of $4.95 to $5.19 in early February this year (investors should have exited once the target price had been reached). After the run-up to $5.19, the market was hit by rising inflation and fears of a full-blown recession, which have caused the share price to fall back to a low of $3+. The share price rose again to reflect the positive 1Q23 performance. All was good until the 2Q23 report came out, which was a weak one. The share price fell all the way back to $3 and saw recovery after the 3Q23 report. While the share price has shown recovery momentum, I am going to give an update regarding the recent 3Q23 results and my decision to downgrade the stock to neutral.

Starting with the positive part of my update, VMEO reported above-guided 3Q23 revenue of $106 million (management guided $100 million) and adj EBITDA of $13 million (which is also above management’s own guidance). The key highlight is the strong adj EBITDA performance (5th straight quarter of positive adj EBITDA), the highest VMEO has ever generated across its operating history, which was driven by strong execution in Q3. Relative to market expectations, this was a massive outperformance, which, in my opinion, has forced many investors to pull forward their profitability timeline. Making things better, management guided 4Q23 adj EBITDA of $7 million to $9 million, which was way ahead of consensus initial expectations of $2.9 million. In my opinion, a big reason for VMEO to continue trading at a cheap valuation was that it is not profitable, and because of the surge in interest rates, the valuation of non-profitable companies got slashed by a ton. Hence, given the fact that VMEO has shown consistent improvement in EBITDA, I think the market values this, which led to the share price recovery in recent weeks.

However, I believe another headwind is looming over VMEO in the near term. While it's true that bookings increased to 4% year-over-year in 3Q23, that growth was fueled by 55% growth in Vimeo Enterprise, which is expected to face headwinds soon. Specifically, management pointed out that a lower pipeline, which fell in 3Q and into early 4Q mainly because of execution issues, will impact the Vimeo Enterprise. These headwinds arise from the way leads are entered into the system and are mainly caused by execution issues. In my opinion, this is really bad news for investors, as this could snowball into a huge chokepoint for growth. I view VMEO’s growth equation as follows: number of leads * conversion * ARPU = revenue. In the current state, even if there is huge growth in the number of leads, the low conversion rate is going to limit growth potential. Making things worse, management mentioned that they are facing growing headwinds in the pipeline, which means the "number of leads” is unlikely to grow by a lot. If I were to put it bluntly, it means that the weak macro-environment and weak execution strength are going to impact growth. Making things more uncertain in the near term is the change in strategy in the self-serve segment from paid marketing to a product-led strategy. This is likely to be beneficial in the long term as it enhances VMEO’s top-of-the funnel presence; however, the tapering of paid marketing, which has been a driver of booking growth historically, will definitely impact near-term bookings.

Taken together, I believe the near-term bookings growth is going to be volatile and will weigh on the stock’s sentiment significantly (remember that bookings are an early indicator of growth). Management itself also no longer expects to return to sustained booking growth by the end of the year. As such, I am downgrading my rating from a buy to a neutral rating until there is more visibility into booking growth. Also, given the lack of visibility, I am holding off updating my model until more information is available.

Upside risks

The upside risk is if bookings perform much better than I expected, driven by a strong recovery in the macro environment and/or management pulling off the transition in marketing strategy with no hiccups. With the bookings concern out of the way, the growth runway will be much more visible. Coupled with an improved EBITDA margin profile, the stock price should perform positively.

Summary

In summary, I believe VMEO faces uncertain near-term growth prospects, leading me to downgrade my recommendation to a neutral rating. While the recent Q3 results showcased strong adjusted EBITDA, surpassing market expectations, concerns arise from a potential slowdown in bookings growth. Importantly, the challenges in lead conversion and pipeline growth raise uncertainties about bookings growth trend. Management's acknowledgment of booking growth uncertainties further contributes to my cautious stance. Hence, I've refrained from updating my model until clearer visibility emerges.

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