IDT Stock: Not For The Industry Specialist Crowd (NYSE: IDT)


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The following segment was excerpted from this fund letter.

IDT Corp. (IDT)

My prior comment on owner-operators is fitting, as during the quarter we entered into a core position in IDT Corp., a founder-led company with an incredibly strong history of value creation and multiple catalysts on the horizon for potential share price appreciation. IDT is a telecommunications company with zero comps that is both misunderstood and overlooked as a confusing, slow growing secularly declining telecom business that pays no dividends and has unappealing historical financials. IDT is not for the industry specialist crowd, wouldn’t make sense for quant or momentum strategies, isn’t included in any passive indices and has a market cap below $1 billion with 70% of the voting power held by insiders. This leaves the small group of active small cap investors as the only participants who might be interested in analyzing IDT. Throw in the fact that management participates in one investor conference per year and has done little to gain research coverage for IDT or any of their subsidiaries, and there is the potential for mispricing here. These factors along with the recent market selloff have caused IDT to appear undervalued looking a few years out, using conservative business assumptions. Until recently, I was among the group described above, as studying IDT took some getting out of my own way to appreciate.

The reason for the above ground lack of appeal involves the historical playbook for IDT, where the development of subsidiaries starts with idea implementation, followed by execution and incubation, and ends with value unlocks via tax free spinoffs or dividends. Since 2012 when this spinoff strategy was enacted, IDT has parted ways with five businesses valued at nearly $3 billion and has collectively distributed over $200mm in dividends. This track record of value creation has resulted in every $1 invested in IDT in 2012 to be worth over $45 today. That’s not a typo. Yet a look at IDT stock price and consolidated financials from 2012-2020 would reveal nothing short of a ‘loser’ with 8 years of flat returns and limited revenue or operating income growth at the consolidated level. In my view, this focus on trailing or consolidated numbers – still happening today – has caused IDT stock to be overlooked and ignored by most investors.

IDT is also considered by many as a sum of the parts story, and while that is not incorrect, dislike for SOTP investments, limited disclosures and low float have reduced the universe of investors interested in uncovering the appealing aspects of the business. For every sum-of-the-parts thesis that works, there remains another where real estate values aren’t what they seem, a legacy business line is worse than investors thought, or one ‘part’ of the ‘sum’ ends up being worthless. In that way, certain sum of the parts valuations are like beauty…. existing in the eye of the beholder. With IDT however, the subsidiary ‘parts’ are proven businesses executing tremendously well, not reliant on capital markets to grow with room for significant upside moving forward. The management team has also made a career out of building long- term value per share in patient, unconventional ways. Today, I don’t believe investors are paying much for one of the parts, let alone the sum.

In addition, among the very thorough publicly available analysis for IDT that has been released by Alta Fox Capital and Immersion Partners, there has been a large focus on revenue multiples for each of the growth subsidiaries. I don’t believe this is the wrong approach given peer comparisons, reinvestment, and (until recently) elevated multiples for comps such as RingCentral, 8×8, Lightspeed, Toast and PayPal among others. But market conditions drive revenue multiples (as some are painfully experiencing right now), and IDT has been somewhat levered to this compression despite having what I believe to be best in class businesses with differentiated focuses, less competition, long runways for growth and superior financials in the areas of Money Transfer, Point of Sale and Unified Communication Services. As a result, it might be more instructive to try and project margins and operating income a few years out, which only serves to further highlight the mispricing.

I’d like to outline my view on each of the various business segments and project what they could potentially be worth within a few years.

Traditional Communications

IDT’s Traditional Communications segment is made up of three separate businesses consisting of BOSS Revolution calling services (prepaid calling cards and other prepaid services), Carrier Services wholesale calling (for global minutes termination), and Mobile Top Up (a global wireless minutes ‘top up’ service). Together, these businesses make up 92% of IDT revenue and generate 100% of EBITDA as of FY21. As internet-based calling, mobile calling services and the use of VoIP technology grows, there are few who would argue that traditional calling services aren’t in decline. As a result, Traditional is viewed by most as a melting ice cube, but still generates significant free cash flow through which to invest in IDT’s numerous growth subsidiaries. More importantly, segment growth has recently been restored by management who has removed a large amount of fixed costs, invested in new products and verticals and incubated a fast- growing subsidiary (Mobile Top Up) that could have the potential to transform the entire margin profile of Traditional Communications. Today, management has shifted Traditional from a declining top line and flattish margin business to one growing at high single digits with some room for margin expansion. While Carrier Services and BOSS Revolution calling should continue to decline in line with industry trends, Traditional should be kept propped up by Mobile Top Up and as a result be able to grow revenues and EBITDA at mid-high single digits. Traditional Communications posted $91mm in EBITDA for FY21 which I have conservatively growing to $115mm by 2026.

I’d estimate that Traditional Communications alone could be worth $20/per IDT share within a few years (or 5x EBITDA), netting investors (at the mid-point) cash and investments plus the remaining three growth businesses for less than $350mm. This would be in my view less than what a knowledgeable buyer would pay for just ONE of the growth subsidiaries.

Optionality here exists with the not-yet-broken-out Mobile Top Up business (‘MTU’), a surprising growth story within Traditional Communications given the recent demand trends for mobile top up services across world. Mobile Top Up enables the transfer of airtime, messaging, and data to mobile accounts within the U.S. and internationally where customers can purchase a transfer of airtime minutes by adding a credit to a recipient’s local prepaid mobile number within minutes. MTU now generates 35% of IDT’s total revenues and has been growing in excess of 20% throughout the past few years. Mobile Top Up sells their services through both retail partners and direct to consumer. The retail channel is very low margin given payments to suppliers while direct to consumer sports about 3x the margins given less reliance on mobile carrier partners, thus lower fees and commissions. COVID drastically increased MTU’s shift to direct to consumer sales, which if persists will have the result of significantly transforming the entire margin profile of Traditional, resulting in significantly higher cash flow generation.

While unit economics for MTU are not yet broken out, my work indicates that as the percentage of direct- to-consumer sales continues to grow over the next few years, MTU could generate a significantly higher portion of Traditional Communications revenues with a path to doubling gross and EBITDA margins from mid-single digits today to low double digits. A business growing over 20% per year while expanding margins, valued at 15x EBITDA could potentially be worth close to the entire enterprise value of IDT today. As a sanity test, global top up business Ding Mobile, a decent comp for MTU, received a strategic investment in September of 2021 valuing the business at 20x EBITDA. Using the same multiple for Mobile Top Up – which has higher gross and EBITDA margins – would reflect a $600mm valuation or $22/per IDT share for Mobile Top Up alone. Furthermore, Mobile Top Up has additional avenues for growth including geographic expansion and upsells such as the delivery of gift cards.

Saying nothing for Mobile Top Up, at today’s price, investors are paying 8.6x EBITDA for all of IDT while getting the three growth businesses, management’s capital allocation prowess and future optionality included in that price.

Boss Money Transfer

One of IDT’s biggest strengths consists of the ability to leverage existing customer relationships into new products, services and business lines. BOSS Money Transfer is a carve out from IDT’s BOSS Revolution calling brand whereby IDT is leveraging existing customer relationships and distribution by developing a money transfer business targeted to BOSS Revolution customers (a group of 3mm in the US alone), among others. BOSS Money Transfer is an international money remittance service designed to let customers send money to recipients in 37 countries, to 306,000 locations or digitally via the Boss Money app. Customers can make cash available for pickup, select home or digital delivery to a mobile wallet, or route a transaction to a bank account. During the past twelve months over 8 million transactions have been processed, with BOSS Money on track to report over $60mm in revenues for FY22.

BOSS Money generates revenue on a fee per transaction basis, where transactions should continue to climb higher as IDT explores new geographies, increases retailer penetration and as the BOSS Money app continues to take hold. That last point is important as a large percentage of transactions currently take place through the app, which comes with lower customer acquisition costs due to the direct nature of transacting, high repeat customer rate at 80%, low churn and higher gross margins as retailer commissions are eliminated. The money remittance industry is massive and highly competitive with Boss Money a small player, but they serve a critical need for customers who rely on money remittance services to send funds to friends and relatives outside of the US. This, plus the growing market for digital remittance services should continue to provide a long runway for customer and transaction growth.

Efficient customer acquisition, the expansion of the payout network and the entrance into new geographies such as Canada and the UK have allowed BOSS Money to nearly double their transactions each year during the past four years. Transactions grew 18% year over year during Q1 2022 and excluding the impact of foreign exchange market conditions that positively affected revenue and transactions during the second half of fiscal 2020 and the first half of fiscal 2021, transactions would have increased 38% year over year.

I estimate BOSS Money transaction volume will grow at a low to mid-teens rate on their way to processing over 15mm in transactions by 2026 with transaction fees growing low double digits to around $6.75/transaction. I’d estimate in line with payment companies and digital payment peers that BOSS could earn 18-20% EBIT margins over time, generating (at the mid-point) $19mm in EBIT on slightly over $100mm in revenues over the next few years. Given BOSS’s competitive positioning, expansion opportunities, digital transaction opportunity and growth, I believe a market multiple of operating income is warranted. At 15x EBIT, BOSS Money would be worth $285mm or $10/per IDT share. I believe this valuation may prove to be conservative at 2.8x revenues.

Net2Phone

Net2Phone is IDT’s fast growing Unified Communications Services (UCaaS) business that was founded in the 1990s prior to advancements in cloud-based technology, then sold to AT&T and subsequently repurchased by IDT in 2006. Put simply, UCaaS services are modern, cloud-based business communication tools consisting of features such as cloud-based calling, in-office messaging, video conferencing and conference center outsourcing capabilities.

The UCaaS industry is large (estimated to be a $70+ billion market within a few years) and rapidly growing between 20-25% per year. There is a massive opportunity for UCaaS businesses to play a part in transitioning the majority of on-premise or private branch exchange (PBX) customers to the cloud with many of the top UCaaS players citing a TAM of over 400 million potential customers or ‘seats’. Anyone who has ever used modern office communication tools would understand the advantages and benefits over traditional office phone lines as UCaaS requires minimal to no hardware, less ongoing maintenance and provides more seamless communication. Net2Phone has been developing their own communication platform for five years and now sells their services through direct sales reps, master agent partners and a network of over 5,000 channel partners (reseller, service provider, vendor etc.).

The UCaaS industry in the US is highly competitive with low barriers to entry, little differentiation in the form of commoditized technology, and currently undergoing among incumbents an all-out ‘land grab’ resulting in discounting, massive incentive payments to channel partners, and a pricing / ARPU ‘race to the bottom’ (sounds attractive, right?). The focus on land and expand is a result of the stickiness exhibited by customers as many want to choose an all-in-one provider for UCaaS services, and revenue in the back end of a contract is very high margin following high customer acquisition upfront to grow your seat count.

IDT and Net2Phone made the conscious (and smart) choice to differentiate themselves by attacking geographies outside the US including South America and focusing on small and mid-sized businesses with as little as 25-100 seats where there is less competition and the inability for large enterprise sales forces to make the unit economics work. Despite the very low barriers to entry in the US, South America is a very different market that requires relationships, channel partners and established infrastructure to succeed. Today over 50% of Net2phone seats are outside of the US, and their first mover advantage, use of channel partners and favorable customer acquisition costs allow them to earn gross margins higher than their UCaaS peers. While investors might balk at paying an above peer multiple for a business that sells 25 seat accounts to Joe Shmoe’s accounting office in Brazil, Net2phone’s award winning solutions, value proposition and incentives to channel partners have earned them customers such as ESPN Brazil, Allstate, Shopify and Berkshire Hathaway Home Services.

This geographic focus has resulted in faster than peer seat growth of over 50% during the past few years to over 250,000 total seats with the non-US markets representing the fastest growing segments. During Q1 2022, Net2Phone reported 58% growth in Latin America year over year vs. 42% in the US. The South America opportunity is tremendous as there is significantly less competition for Net2Phone in these geographies given the large focus on US, Europe and APAC regions. To put this in perspective, a read-through of every competitor’s annual report and conference calls as well as speaking with industry experts, competitors, suppliers, employees, customers and management teams reflected a near zero focus on South America. Oddly, this is not due to the unattractiveness of the geography. While large accounts don’t make up the bulk of potential seat additions, South American infrastructure is largely PBX based providing a long runway for growth among the many businesses available to transition to UCaaS during the next five years. Especially long for the first mover with the most channel partners.

Given the small business focus and US competition, Net2Phone likely won’t be immune to slight declines in ARPU moving forward, so with conservative estimates for both seat growth and ARPU decelerating from their recent growth rates, I estimate Net2Phone can reach over 600,000 seats by 2026, earning around $16/seat in monthly recurring revenue, down 11% from today. This would peg total revenue for Net2Phone at $115 million. At a projected 20% operating margin, slightly below at-maturity peer projections, Net2Phone could generate around $23mm in operating income. I don’t believe applying a slightly above market multiple of 16x would be egregious given Net2Phone’s geographic advantages, gross margins, industry leading growth rates and continued runway for expansion. In this scenario IDT’s 86.4% ownership in Net2Phone would be worth $317mm or $12/per IDT share. I believe this is an incredibly conservative valuation as this scenario implies a valuation of 3.2x revenues when peers in the space have regularly traded for a median of 6.6x revenues with slower growing mature businesses on the lower end and faster growing ones sporting high teens to low 20’s multiples.

National Retail Solutions

National Retail Solutions or ‘NRS’ is IDT’s point of sale and payments platform sold into the single operator convenience store, bodega and grocery markets. NRS followed the path of ‘businesses being incubated within IDT’ and was officially launched in 2016 by leveraging the 40,000+ retail relationships IDT has through selling their BOSS Revolution prepaid calling card products. Point of sale terminals (hardware) are sold to customers for a one-time payment upfront, while NRS also generates revenue through monthly software subscriptions, payment processing fees via NRS Pay and the sale of data and out of home advertising displays. Developing a customized point-of-sale solution for its pre-existing base of customers not only allowed IDT to make first-mover inroads into the immigrant, convenience store and bodega markets, but also allowed them to purpose-fit a specialized solution outside of the one-size-fits-all approach for other enterprise POS businesses.

IDT’s efforts in this area have resulted in NRS terminal growth of around 40% per year for the past three years, having just crossed 15,000 installed terminals as of Q1 2022. Importantly, the installed base of terminal customers can now be upsold payment processing / merchant services capabilities through NRS Pay as well as additional features and functionality such as inventory management capabilities and remote cash protection, among others. Today, payment processing accounts represent just 45% of total terminals, indicating a long runway for growth that will provide both an ARPU and gross margin uplift for new NRS Pay accounts.

Investments in sales reps and a bi-lingual call center have begun to pay off as the most recent quarterly results reflected a 104% increase in revenues year over year while revenue per terminal grew 63% during that same period. This follows the triple digit growth trajectory NRS has seen since publicly disclosing segment details in 2018. For IDT, the sales process is less intensive than it would be for competitors due to the built-in relationships as well as the bilingual requirements for IDT salespeople to penetrate these markets. Typically, NRS would be replacing a legacy cash register as opposed to another POS system, both because many store owners were made up of immigrant families less familiar with modern POS technology and because this market remains underpenetrated given the one-size fits all nature of larger enterprise POS businesses and lack of specialized sales forces. IDT estimates the TAM for NRS is a large percentage of the 200,000 single operator convenience stores and bodegas throughout the industry, providing a significant runway for growth. Importantly, IDT recently rolled out self-install capabilities for merchants, no longer requiring the physical presence of a sales or tech person which should have the effect of further accelerating growth.

While there are certainly larger and better capitalized competitors, especially on the enterprise side, IDT is content to let peers fight it out for multi-location convenience stores, restaurants and gas stations as NRS continues to attack its niche. Most importantly, there remain zero competitors with the data and advertising opportunity which cannot be overstated. NRS collects incredibly valuable scan data on each transaction, providing a look at consumer behavior in typically under-served markets and geographies. NRS merchant customers could provide CPG companies with purchase behavior information on key convenience store categories such as alcohol, tobacco, beverages and snacks. Multiple industry operators have confirmed that basic transaction data (such as tobacco / beverage purchases) can be sold for amounts up to $1,000/month. NRS monthly recurring revenue per terminal is currently $196. In addition, NRS can package, slice and dice the data to provide it in a customized way to CPG and tobacco companies meaning they could potentially sign multiple deals per terminal moving forward. The opportunity can be illustrated as such: if NRS entered into 5 data deals at just $65/month, they would earn $325 monthly recurring revenue from JUST data alone, compared to TOTAL MRR of $196 right now. Removing any conjecture are the deals NRS currently has with both Swisher and Turning Point Brands for tobacco purchase data. In my opinion, there is a $400-500 MRR per terminal opportunity for NRS moving forward that is currently in the very early stages. In this case, the economics would accrue to NRS very quickly and very lucratively. The current installed base of terminals is 15,100. At 25,000 terminals within a few years doing potentially $5,000 ARR per terminal gets NRS to $125 million in recurring revenue. At a conservative 10x revenue, IDT’s 83.5% ownership in NRS would be worth over $1.0 billion, or $38/share compared to an enterprise value of $776mm for ALL of IDT today. Notably, 25k terminals would only represent a small fraction of the total addressable market.

Although it would be disingenuous to project revenue growth at triple digit rates moving forward, I estimate that NRS could finish 2026 with revenue in the range of $160-190mm, the higher end of which would represent just 35% growth from today. As data and advertising sales become a higher percentage of revenue per terminal – nearly 100% cash margin – I estimate NRS could post somewhere between 30- 35% operating margins. A business growing in excess of 30% with recurring revenue, low churn, limited competition and a continued long growth runway with those unit economics should be worth at least 20x EBIT. At the low point of that revenue and margin range and utilizing a 20x multiple, NRS would be worth $960mm or $35/per IDT share. I believe these assumptions will prove to be incredibly conservative, especially as the data opportunity takes hold. I think NRS best in class gross margins, highest ARPU and revenue CAGRs among peers and location value with limited competition should allow them to trade at a premium to comps (although there aren’t great comps). Furthermore, a transaction was completed in September whereby Alta Fox Capital acquired 2.5% of NRS for $10mm, implying a $400mm valuation or 19x current revenues. Annualizing NRS revenues from Q1’22 implies that by year end, revenues will have doubled from when the deal was announced.

According to management, value for NRS will be unlocked via a tax-free spinoff within 12-24 months dependent on business progress and market conditions. Most importantly, growth in terminals requires nothing more than continued blocking and tackling on a product with a very high value proposition to customers.

Putting It All Together

As mentioned above, valuing IDT’s growth subsidiaries has typically required a revenue multiple approach given they are in growth mode and thus reinvesting (as they should be) while generating slight operating losses.

Utilizing conservative revenue multiples below peer valuations despite the competitively advantaged aspects discussed above would yield a share price of around $60 by 2023, or 70% higher than the current price. I stress the word conservative given the lower than peer multiples, exclusion of Mobile Top Up optionality, and a low multiple of EBITDA for Traditional Communications while assuming zero growth in cash flow from today.

IDT Share Price (1/25/22)

$35.85

Shares Outstanding (MM) (Class A&B)

25.7

Market Cap

$921.3

Cash

$145.0

Debt

$0.0

Enterprise Value

$776.3

2023

Traditional Communications @ 5x EBITDA

$450.0

Net2Phone @ 3.0x revenues

$225.0

Boss Money @ 3.5x revenues

$210.0

NRS @ 8.0x revenues

$600.0

(+) Cash

$153.0

(-) Corporate

-$80.0

EV

$1,558.0

Per Share Value

$61.10

Upside

70%

With an enterprise value of $776mm today, investors are paying 8.6x Traditional Communications EBITDA for ALL of IDT and paying little to nothing for the three growth businesses set to generate over $200mm in recurring revenue by 2023, with spin-offs on the horizon. Notably, shares traded above this price as recently as November following two phenomenal quarters, only to decline significantly due to the market wide selloff that hit small caps especially hard.

Adding up the 2026 valuations described above would yield a share price of $75/share or greater than 100% upside from today’s price. Keep in mind this excludes a breakout of Mobile Top Up, as well as reduces cash and investments to $20mm, setting aside $125mm for potential damages relating to IDT’s ongoing lawsuit with Straight Path Communications (touched on below).

IDT Share Price (1/25/22)

$35.85

Shares Outstanding ((MM)) (Class A&B shares)

27.5

Market Cap

$985.9

Cash (subtract $125mm for lawsuit)

$20.0

Debt

$0.0

Enterprise Value

$965.9

2026

Traditional Communications @ 5x EBITDA (incl. MTU)

$575.0

Net2Phone @ 16x EBIT

$317.0

Boss Money @ 15x EBIT

$285.0

NRS @ 20x EBIT

$960.0

(+) Cash

$20.0

(-) Corporate

-$80.0

EV

$2,077.0

Per Share Value

$75.53

Upside

111%

Assuming my NRS projections are supported by execution, investors are getting NRS for the entire enterprise value of IDT, netting you Traditional Communications, Boss Money and Net2Phone for nothing. Alternatively, netting out Traditional from the above enterprise value leaves $390mm being paid for the remaining three growth businesses. In other words, no matter how one slices it, IDT appears to be severely undervalued as investors are paying little today for growth and optionality. Furthermore, I believe the potential spins of Net2Phone and NRS would not only serve to highlight the attractiveness of these businesses but also remove the management teams of each unit from the constraints of IDT which has historically been very disciplined on spending for growth. In this case, the upside could be even more significant.

Working in IDT’s favor is their track record of customer satisfaction earned by providing critical support and services to under-served groups of people and communities. When the market zigs, IDT zags, and as a result has made it their focus to spend time with less competitively burdened geographies and markets whether that is the focus on single location convenience stores through NRS in immigrant communities (as opposed to enterprise sales) or their market presence in South America and Brazil with Net2Phone (as opposed to the dog-eat-dog worlds of the US, Europe and APAC regions). It shouldn’t come as a surprise then that NRS, Net2Phone and Boss Money Transfer services are the preferred providers for each of their end markets with customer satisfaction leading to stickiness, low churn and the potential for upselling in order to drive higher ARPU within each business.

A bear argument against IDT consists of nepotism claims as a look through proxy statement and board makeup would reveal they certainly like to keep it in the family. There is also an outstanding lawsuit involving Straight Path Communications where any potential damages should be resolved via the outstanding motion to dismiss or a small settlement. Mitigating this are the people inside of the organization as well as IDT’s track record of value creation which is undeniable. I would put the management teams at the head of each of their business units up against any business operators I’ve come across. This group is passionate, hungry, knowledgeable and out to prove themselves, while maintaining discipline on costs and thoughtfully implementing their strategies. Many of IDT employees have tenures greater than 10-15 years which can be attributed to the strong and decentralized employee led culture where calculated risks are allowed (and rewarded), entrepreneurial attitudes are adopted, and managers are given the leeway and freedom to take control of their business units to drive the best results. I am thrilled to be a part of the IDT culture, which will continue to drive their various businesses forward. I like the setup here and believe that our shares could be worth significantly more than what we paid within a few years.

Editor’s Note: The summary bullets for this article were chosen by Seeking Alpha editors.



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