Investing in small-cap tech stocks often means buying into lots of landmines. Companies with a very limited operating history can often be broken by single incidents, as was the case with Bandwidth (BAND) when it suffered a widespread DDoS (distributed denial of service) attack in September 2021. L he event not only cost Bandwidth immediate loss of revenue from service outages and credits it owed to customers, but long-term growth as well as customer confidence in the product was slightly eroded.
This bad news came on top of the fact that bandwidth had already seen a downturn in the tailwinds of the pandemic. As a reminder, Bandwidth, like its close competitor Twilio (TWLO), prices its products based on usage – that is, each time an SMS or voice call over the Internet is sent or activated , Bandwidth generates revenue from its customers. During the pandemic, when people turned to their apps for almost everything, Bandwidth’s revenue and customer expansion rates skyrocketed.
The past year has been less favorable for Bandwidth; as its organic growth slowed, the company purchased a European competitor to expand its market reach and again drive overall business growth, before being hit by the DDoS attack in Q3/Q4. From peak values above $170, Bandwidth has now lost over 80% of its value, and since the start of 2022, Bandwidth has lost over 50%.
Despite the recent risks and negative news on Bandwidth (which we’ll cover in the following sections), I believe these risks have already been more than factored into Bandwidth’s stock, and I remain very optimistic on this name.
Bandwidth’s gloomy outlook is offset by its low valuation
First of all, the recent decline in bandwidth stock, beyond the general macroeconomic risks that have emerged (rate hikes and the Russia/Ukraine situation), is largely due to the company’s updated forecast for 2022. Take a look at the metrics below:
The company forecasts revenue of $547 million to $555 million for the year, which is only an 11 to 13 percent year-over-year growth range. Note that the first quarter of FY22 will be the first quarter in which the Voxbone acquisition will be fully offset (the transaction closed in the middle of the fourth quarter of FY20).
Wall Street, meanwhile, had forecast consensus revenue of $569.7 million for FY22 — which would have represented 16% year-over-year revenue growth. Obviously, that’s a tough message to digest – during the pandemic, bandwidth was a growth star with incredible revenue growth >40% per year (including Voxbone’s contribution), and now it’s is sinking into a very low growth actor.
The main variable taken into account by Bandwidth is the lingering impact of the September DDoS attack. Although the company is proud that it has not lost a single customer in the fallout, it has acknowledged that customers have reduced their use of the platform as a result, which also has an impact on rates. retention of net income.
Here are some of CEO David Morken’s comments on the company’s growth assumptions and notable headwinds for the current year from his prepared remarks on the fourth quarter earnings call:
Looking forward to 2022. I’m happy to say that while we haven’t lost a single customer due to the incident, some customers have returned traffic to our network at lower volume levels, indicating a desire for additional redundancy options. This customer group is expected to gradually increase usage over the next year as we provide additional resiliency options for critical use cases. But even if we build trust with this cohort, we expect revenue growth in 2022 to be dampened by this incident. Putting things into perspective, this cohort includes approximately 40 customers who account for the bulk of the revenue impact on over 3,000 total customers. It includes a Tier 1 Communications Service Provider that accounts for approximately 20% of the projected DDOS revenue impact in 2022 […]
In addition to the DDOS impact in 2022, we face headwinds in our outlook related to the changing dynamics between two large customers. First, we have a long-standing relationship with a global leader in video conferencing, a customer we partnered with and served exclusively for new product launches and during periods of explosive growth in our global footprint during the pandemic. In recognition of this longstanding relationship, we have agreed to provide future price concessions that reflect the expected size and speed of their use on our platform. This reset strengthens our position to partner with this customer on their product roadmap and serve their recalibrated global growth.
Second, we expect lower usage from a large global customer of Cloud Contact Center Service technology after a year of exceptional growth on our platform in 2021. This customer has expanded its offering in international markets and developing by prioritizing frictionless integration to deliver the best experience for their customers. Our discussions with this customer lead us to believe that they will now focus on enforcing the terms of service with their end users. We expect this to lead to lower volume this year. But we remain positive about the relationship and the great global opportunity across the multiple industries we serve for this client. »
Specifically, the company also added that the lingering impacts of the DDoS attack will reduce 2022 revenue by $4-6 million per quarter, or $16-24 million for the year (worth three to five growth points).
While certainly not the safest basis to start 2022, I would argue that from an investor’s perspective, these risks are more than priced into Bandwidth’s stock price. At the current share price near $31, Bandwidth is now one of the smallest companies in the software industry with a market capitalization of just $783.5 million. After deducting $331.5 million in cash and $486.4 million in debt from Bandwidth’s most recent balance sheet, the company’s bottom line the enterprise value is $938.4 million.
Compared to Bandwidth’s FY22 revenue guidance midpoint of $551 million, the stock is trading at just 1.7x turnover EV/FY22 – which is an incredibly modest multiple for a recurring revenue software company that has already seen positive adjusted EBITDA and positive cash flow.
Next, let’s look at Bandwidth’s latest Q4 results, which were far from terrible and actually exceeded Wall Street expectations. The fourth quarter revenue summary is shown below:
Bandwidth revenue grew 12% YoY to $126.1M in the quarter, beating Wall Street expectations of $118.3M (+5% YoY) by a massive margin seven points. Note that Bandwidth’s revenue growth slowed from 54% YoY in Q3, but that’s because it lost the “advantage” of not having a Voxbone comp in Q3. ‘last year. Going forward, this organic growth rate of around 12% is in line with what the company expects for 2022.
Note that the y/y composition is further confused by the fact that we are comparing with an election cycle in 2020, which has resulted in increased traffic and political messaging. Factoring in the Voxbone acquisition as well as election-cycle-related revenue, Bandwidth’s fourth-quarter organic revenue growth was quite strong at 24% year-over-year.
The company has also refocused and strengthened its commercial organization under a new role of chief operating officer, reorganizing its teams and carrying out non-essential divestitures.
For the full year of 2021, Bandwidth’s net dollar retention rate was 110% on an as reported basis, as shown in the chart below:
However, after normalizing for tough competition from last year’s election cycle, plus the roughly $10 million in revenue lost to the DDoS attack this year, the company estimates retention rates net would have been 117% – still slightly above its previous five-year average.
In terms of profitability, we note that despite the tougher year-over-year revenue mix as well as the DDoS attack, the company still managed to come out of FY21 with 50 million dollars of adjusted EBITDA, roughly doubling year over year. The adjusted EBITDA margin of 10.1% this year was also 250 basis points higher than the previous year’s 7.6%. Additionally, the company’s free cash flow in FY21 increased to $3.6 million from a loss of -$10.1 million in the prior year.
Key points to remember
A lot of pessimism has built up in bandwidth, and while the risks of slower growth are real (due to the lingering impacts of DDoS attacks), a