Datto’s IPO Faces A number of Challenges And Issues (NYSE:MSP)

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Datto Holding Corp. (MSP) is likely one of the latest tech firms to go public and had a profitable first day of buying and selling. Bloomberg reported that Datto raised $594 million by promoting 22 million shares at $27 per share. With over 157 million shares excellent after the IPO in keeping with its SEC report, Datto has a market cap of over $4.2 billion.

Datto is in a superb technological area of interest in providing backup and restoration options. However the firm’s monetary numbers are lackluster, and there are issues about its debt load and relation to its proprietor Vista Fairness. With so many rapidly-growing tech shares and IPOs in the marketplace today, Datto has a tough case to steer traders that it’s higher than the remaining.

Information Backup and Vista

Datto’s major enterprise is with managed service suppliers (MSPs), and the corporate states in its SEC submitting that its know-how platform “permits our 17,000 MSP companions to handle and develop their companies serving the SMB data know-how, or SMB IT, market.”

MSPs are IT corporations which serve a number of small companies on an advert hoc foundation, which lets the small companies have IT help with out paying the complete prices to arrange their very own IT infrastructure. Mordor Intelligence predicted that the MSP market had a CAGR of 11.27% as much as 2025. Moreover, subsequent occasions just like the coronavirus have solely accelerated tendencies in the direction of placing extra know-how within the cloud and distant work. This implies SMBs want a extra sturdy IT infrastructure, which in flip signifies that they flip to MSPs and Datto by extension.

Datto’s major focus is on backup providers versus IT usually, which does imply that it doesn’t have full entry to the complete MSP market. However information backup is a vital MSP operate, with the corporate stating that 82% of companies have been affected by system downtime or information loss with over 98% of companies reporting that the common price of a single hour of downtime price over $100,000. The excellent news is that Datto has a longtime area of interest in a big and rising MSP market, whereas different opponents unfold themselves out backup providers to a wider vary of companies.

Datto itself could have a stable enterprise mannequin, however skeptics are involved about the truth that Datto just isn’t an impartial enterprise. The corporate states that 72.2% of its shares will likely be owned by Vista, a personal fairness agency which obtained Datto in 2017.

Vista can level out that one other tech firm it obtained referred to as Ping Identification (PING) has greater than doubled in worth since going public in September 2019. However Vista has additionally saddled Datto with an amazing debt burden. Datto had complete present and long-term indebtedness excellent of $591.6 million as of June 30, and admitted in its SEC report that “we had no further borrowing capability underneath our Revolving Credit score Facility.”

Datto plans on getting into into new revolving credit score facility after the IPO, and intends on utilizing the IPO proceeds to pay down its debt. However that ought to flip off traders who ought to need their cash for use for future development as an alternative of paying off for previous development. It’s doable that Vista could proceed to shoulder Datto with further debt, and there may be little shareholders will be capable of do about it given its controlling stake.

Monetary Outcomes

Vista is a priority, however Datto faces an even bigger downside in its monetary outcomes. The corporate reported a income of $249 million within the first six months of 2020, simply 16% greater in comparison with the identical interval in 2019. Moreover, it solely grew by 18% from 2018 to 2019, which reveals that the corporate can’t simply blame this development charge on the coronavirus.

Datto can level out that it’s a considerably extra mature firm, having been based in 2007 and being outstanding sufficient early on to play a small function within the Hillary Clinton email incident. Moreover, the corporate is the uncommon tech IPO which is definitely worthwhile, recording a web revenue of $10 million within the first half of 2020.

The corporate additionally generated $24 million in money in working actions within the first half of 2020. However a web revenue of $10 million just isn’t massive, and Datto finds itself nicely under the rule of 40 which is usually used to judge tech IPOs.

The excellent news is that maybe for these very causes, Datto’s valuation is pretty affordable. The corporate has an enterprise worth of about $4.8 billion. If we challenge a income development of 18% into 2020, Datto’s 2020 income will likely be round $541 million, which suggests an EV/income ratio of 8.8.

Datto’s important rivals corresponding to Barracuda, Veeam, and StorageCraft are all personal firms, so a comparability with these firms just isn’t doable. But when we have a look at considerably comparable firms like VMWare (VMW) or Dropbox (DBX), we discover that Datto’s ratio is at an analogous stage in comparison with theirs.

Closing Ideas

There’s a robust constructive case for Datto. The corporate is rising in an vital discipline and has discovered a distinct segment servicing MSPs, and doesn’t have any considerably bigger tech firms to fret about. A worthwhile tech firm that’s cash-flow constructive, rising, and worthwhile needs to be a straightforward purchase, particularly its valuation just isn’t that prime.

However there are issues beneath this interesting exterior which ought to fear traders. Datto is worthwhile, however solely simply and it isn’t rising as quick as is often anticipated from a tech IPO. It has a heavy debt burden which will probably be utilizing the IPO proceedings to pay down, and this burden was created by its relation with Vista which is able to proceed.

Datto actually just isn’t a nasty funding choose, and a few traders could determine to purchase and maintain for its long-term development potential. However it’s in all probability to attend and see if this firm’s profitability or income development can enhance in subsequent quarters.

Disclosure: I/we have now no positions in any shares talked about, and no plans to provoke any positions throughout the subsequent 72 hours. I wrote this text myself, and it expresses my very own opinions. I’m not receiving compensation for it (apart from from Looking for Alpha). I’ve no enterprise relationship with any firm whose inventory is talked about on this article.