Starboard Value Is Wrong About $WIX (Issue #67)
The web development space has blown up over the last ~15 years...
TL/DR:
Investment Thesis
Company Overview
Competition
Valuation
Concerns
Comments From Wix
Investment Thesis
While this is not a company I am currently looking to buy it is still a very interesting business. Starboard Capital (activist investor) is working to reduce R&D costs and make the company profitable. Wix already has a solid user base of 248m with 6m of them paying. Their business model also increases customer value over time by selling them increasingly more recurring products at once. They are still trading a little expensive at 52x Price/Cash Flow but the future is cheaper at ~24x Price/Forward Cash Flow. It could be a good opportunity later this year or in the near future with some proven results.
Company Overview
The web development space has blown up over the last ~15 years. Wix has been a major player for most of that time. Founded in Tel Aviv in 2006 Wix went public in 2013. The company provides DIY web development services for consumers as well as small to medium-sized enterprises.
Wix may be a tech company, but in many ways, it should be thought of as a culmination of a few other industries. My favorite comparison is to Paychex (NASDAQ: PAYX — $40.04b) because supplies small to medium enterprises with services that are core to their business operations. In our current era, I don’t think a company can successfully exist without an online presence and more importantly a coherent one with strong Search Engine Optimization (SEO), formatting, functionality, and more. Many of Wix’s competitors can provide some of these, but few if any can provide all.
Almost all of Wix’s services are recurring and there are many add-ons that can create additional revenue. The longer users are on the platform the more efficient the model. Below is a chart comparing Marketing Costs (Customer Acquisition Costs) to Cohort Bookings (Customer Value) over the amount of time they stay on the platform.
Source: Wix Investor Relations
Bookings for Q1 2023 were $415m compared to $393m in Q1 2022. This is a 5.6% year/year increase. Wix projects $172-$180m in FCF for 2023, this would be the highest in the company’s history. Gross margin for Q1 2023 was 65% split between the company’s two branches Creative Subscriptions at 79% and Business Solution at 25%. Creative Subscriptions account for about three-quarters of books with Business Solutions accounting for the rest.
Revenue growth per user is one of the biggest strengths of Wix as a company. Below is a graph of Cumulative Bookings from Q1 User Cohorts ($ Millions). This shows how they can increase the value of users as well as the quantity. Being cumulative the more recent Q1’s haven’t had as much time to accumulate yet, but they are having continually higher starting points.
Source: Wix Investor Relations
Competition
Wix’s 3 biggest competitors are Squarespace, WordPress, and Shopify. Some have also made the case for GoDaddy, but I don’t think this is a strong comp because their functionality is not very strong and their domain business is the business. From an operation standpoint, GoDaddy can be a good comparison just not a threat to Wix’s business. The 3 (Squarespace, WordPress, and Shopify) each have their own specialties. For example, Squarespace focuses on simplicity and templates so users can get an elegant website up quickly and easily. Next WordPress is a more barebones alternative, it has the capacity for many plug-ins. It is more of a utilitarian (function over form) option. Finally, Shopify focuses completely on e-commerce and being a merchant platform. It does this better than any other service. Their templates are fine and can be customized, but the backend functionality of the service for building and running online shops is where they are unmatched (there is a reason they give Amazon a run for their money)
The question is “Where is Wix in this matrix?” It resides in a bit of all and more. Wix has templates to get up and running quickly, however, the high functionality makes it a more complex service than Squarespace. Similar to WordPress Wix has many in-house and external plug-ins and add-ons. In many cases these can serve as key revenue streams and ways to increase customer value. Wix doesn’t have the same e-commerce ability as Shopify, however, theirs is still a solid service. In my mind, it is more there to add an online shop to an existing site, but it can be the main focus of the Wix site.
Valuation
Wix trades at ~46x Price/Cash Flow and ~52x Price/Forward Earnings. Wix doesn’t currently have earnings, but they are projected for this year. However, Q1 2023 was rather disappointing with ~$10m in net loss and the lowest cumulative booking numbers since going public in 2010 at $30m. However, this was the largest quarter for new bookings at ~$415m. This is a high multiple for me considering a lot of it rides on the projections as opposed to proven past earnings. I would consider buying later this year if earnings appear or if the stock falls to a 30-35x Price/Cash Flow multiple. That vicinity seems more reasonable for the sector while factoring in the lack of results and risks.
Wix’s earnings will pale in comparison to their gross margin (65%) because of their annual ~$480m R&D expense. The number one criticism of Wix by outside investors is their surplus of developers compared to the competition. They have a decently strong 62% gross margin, but the ~2,300 R&D employees incur a significant expense. For example, GoDaddy which makes 3x more revenue has ~2,000 R&D employees. Interestingly, GoDaddy has ~40% more R&D than Wix despite having ~15% fewer developers on staff. My working theory to explain this has to do with how Wix is structured differently than GoDaddy:
When I talked to the Wix team they emphasized that they operate on the development side than other companies. Instead of having one large development team, they have a different development team for each type of service (i.e. e-commerce, restaurants, bookings, etc). This is meant to create a better understanding of each market and better-suited products while also building an intimate small company feeling and culture. However, I believe this also creates redundancies in roles. Essentially having two people doing the job of one because they are on different teams. The role of each person would be easier and therefore most likely pay less. This is the main focus of activist investor Starboard Capital. My solution would be to integrate more collaboration between teams. There can still be specialization to provide the best product for each application, but these redundant roles should be eliminated. The goal would be to have fewer, but higher-value people. For example, if there was a 50% reduction in people and the remainder got paid 50% more for the increased workload then it would be a net 25% cost reduction making the company ~$120m more in net income.
Wix doesn’t have earnings therefore it can’t pay dividends or participate in any worthwhile buybacks. However, as they increase efficiency and earnings, there could be opportunities to do either or both of these activities.
Concerns
I found three main current fundamental problems with Wix. They are not permanent but they are still prominent at the moment.
The first problem is that now higher interest rates have made terminal growth for money ~5%. This begins to make other opportunities look less exciting. In order for an investment to be enticing the return potential has to be higher than in previous years and the risks still have to be low. Now the standard is a meaningfully higher than 5% return with minimal or manageable risk.
The next problem is an accentuated version of the first. There are better and safer alternatives namely Google. Google in this case becomes the terminal growth benchmark for tech. As a company, it isn’t very risky and has high return potential. On top of that, Google has proven earnings and free cash flow. Not to mention probably the most important fact that Google currently trades at 18x Price/Cash Flow and 29x Price/Earnings compared to Wix’s 46x Price/Cash Flow and not the guaranteed 52x Price/Forward Earnings.
Finally, it is another greater economic change that affects the classic growth at all cost businesses. While this model may have worked for the 2010s the economy now tests businesses making fundamentals like fortress balance sheets, operating at a profit, and more essential to success.
Many of these problems can be resolved based on results over the next year, but until fixed or at least improved it is difficult for it to seem worth it. This will be one for me to watch through the end of this year. If we start to see noticeable improvement and/or a low discount due to greater market shifts not specific to Wix this could be a stock I’d consider buying. Until then it will be a spectator sport for me.
I was able to get some official responses to some of my questions (or how they interpreted them). I was able to learn some more about how they operate.
Comments From Wix
There are many great and successful companies in TLV and Israel. What makes Wix unique?
At Wix, we embrace our unique approach to doing things. This approach encompasses every aspect of our work, how we interact with one another, and even the atmosphere at our parties and offices. With a diverse community of individuals from various backgrounds, cultures, and perspectives, the environment of acceptance and respect empowers Wix team members to flourish and achieve success, both on an individual level and as cohesive teams.
The Wix Way creates our unique culture and guides us in everything we do. This is what makes Wix a company and product that we’re proud of. You can read more about The Wix Way in our recent ESG report here.
What core Israel Start-Up culture and ideas are key advantages for Wix?
Wix is structured in a unique way. Wix is organized around “companies”, and each company represents specific business domains at Wix, such as Restaurants, Bookings, or eCommerce. Companies enable everyone to belong to a small, intimate team while still contributing to the larger organization. This structure enables us to keep developer velocity high and bureaucracy low, and to maximize individual impact.
For example, while Wix engineers primarily work within their companies, they spend a percentage of their time with their “guild”, which are made up of all Wix employees of the same profession (e.g. Server developers, Fed developers, Product, Data Engineers etc). Guilds provide employees with common technological and educational tools, promote best practices, hone professional skills, and encourage cross-pollination between companies.
Tell me about Wix’s Capabilities:
Wix is a leading web creation platform that empowers individuals and businesses of all sizes to build and manage their online presence. It offers a wide range of features and functionalities to cater to various needs.
Users can choose to create a website either via coding or using a professionally designed template, covering various industries and styles, which can be easily customized to match their brand. Our business solutions are out-of-the-box solutions that provide users with everything they might need to best optimize their website and ease operational burdens.
For example, for a merchant, Wix provides tools enabling them to create an online store and sell products. Additionally, the platform offers features like online scheduling and bookings for service providers, online ordering for food and hospitality businesses, event and ticket sales, invoicing capabilities, and more. These features are designed to support different types of businesses and help them facilitate transactions online.
Wix also offers a range of digital marketing tools to help businesses promote their websites effectively. These tools include SEO, email marketing, social media integration, and analytics to track website performance.
Furthermore, Wix provides secure payment options to ensure smooth and secure transactions for online businesses. It integrates with popular payment gateways, allowing users to accept payments from customers easily.
For users with coding knowledge who want to add custom functionality with code and have advanced CMS capabilities, they can do so with Velo by Wix, a full-stack development platform that empowers users to rapidly build, manage and deploy professional web applications. Advanced users can use the Wix Editor, and with Velo, add custom functionality using standard JavaScript and Velo APIs in the built-in IDE to instantly build more dynamic sites with more control and flexibility.
One of the advantages of using Wix is its constant development of new tools and integrations to address the evolving needs of businesses. It strives to provide a comprehensive platform that enables entrepreneurs, SMBs, and enterprises to succeed in the online world.
Until Sunday,
Soren
Disclaimer: Soren Peterson and Pillars And Profits Newsletter do NOT at the time of writing and publishing have any position in Wix or GoDaddy. Soren Peterson and Pillars And Profits Newsletter are not responsible for any investment results. Nothing conveyed in this newsletter is investment advice. Always do your own research.