CentralNic Group — A platform business, looking to scale

The capital markets event covered the benefits of scale, cross-selling and the integration of new businesses through a robust, automated M&A process. Management focused on the opportunities for the different service lines, highlighting a shared service approach as management pushes for higher value-added services to drive organic growth over the next three years.

Although Ben Crawford (CEO) and Michael Riedl (CFO) anchored the presentation, the stage was largely left to the heads of Wholesale (Robert Birkner), Retail (Marc McCutcheon) and the CEO of Team Internet (Markus Ostertag), showcasing the strength of the second tier of management.

Michael Riedl highlighted the limited impact of COVID-19, discussed current year performance and the impact of acquisitions, foreign exchange and seasonality on the business. Wrapping up, Ben Crawford introduced management’s approach to M&A, highlighting the benefits of increasing scale to the business.

In FY19 and H120, CentralNic has invested in its shared service platforms to ensure that future acquisitions can be integrated quickly and easily, minimising central costs and allowing the group to offer a similar suite of services to clients wherever they are based around the world.

Supported by bolt-on acquisitions, Ben reiterated his view of the growth prospects for the firm, with growth in absolute EBITDA being the driver, even if this includes acquisitions that temporarily dilute EBITDA margins. EBITDA margins are expected to improve as CentralNic scales.

We recently published our initiation on CentralNic, Core internet infrastructure consolidator, where we outlined the buy and build opportunity for CentralNic in the domain name space. In FY19, CentralNic’s segmental reporting was broken down between Reseller, Small Business and Corporate. However, the acquisition of Team Internet, completed in December 2019, adds a further domain monetisation business line to the group. As such, the group has reorganised around three segments: Indirect (incorporating Wholesale and Registry), replacing the Reseller division; Monetisation (Team Internet); and Direct (Retail (previously Small Business) and Corporate).

Wholesale: FY19 revenues US$61m, gross profit US$20m, 32% gross margin

The Indirect segment comprises CentralNic’s Wholesale and Registry businesses. As one of the world’s leading domain name reseller platforms, CentralNic supplies domain names to more than 29,000 reseller clients, with 10m domains under management (DUM). Significant client wins included Automattic, MarkMonitor and ZDNS, with annual renewal rates typically varying between 70% and 90%. CentralNic’s Indirect segment is second ranked globally (after Tucows).

The Wholesale segment operates platforms for resellers including registrars, domain investors, ISPs, hosting companies and corporates (Exhibit 2). It operates under the brands RRP Proxy, Hexonet, PartnerGate, TPP Wholesale, Toweb and GlobeHosting, and is the second largest global business by volume. To complement its domain name business, the group is starting to sell additional services such as DNS services, website builder, SSL certification and web apps, and plans to increasingly offer higher value-added services including Microsoft Office 365, G Suite, AWS hosting and website design and marketing to support future growth (Exhibit 3).

CentralNic’s Registry Solutions business operates a platform for registries of country-code top-level domains (ccTLDs) and new top-level domains (nTLDs). With over 115 top level domains (TLDs) using its registry platform, CentralNic’s Registry Solutions business is the leading registry provider for nTLDs, finishing 2019 with over 40% market share of nTLDs by volume.

Over the next three years, Wholesale intends to become the leading global domain wholesale platform with revenues of US$200m+. Currently c 80% of revenues come from c 20% of customers, but over the next three years, the goal is to diversify Wholesale’s customer base so that c 60% of revenues come from c 40% of customers, increasing the breadth and resilience of its customer base. Wholesale’s strategy involves offering an integrated, customer-focused, data-driven proposition, including developing a single master wholesale brand to provide better purchasing power and also differentiating CentralNic’s services by developing class-leading customer services.

Retail: FY19 revenues US$38m, gross profit US$16m, 43% gross margin

CentralNic’s Retail segment is a rapidly growing challenger business, emerging from a field of largely domestic and regional competitors to become an increasingly influential global player. CentralNic provides domain names and value-added services (by way of a subscription model) to more than 340,000 small businesses around the world, leading to substantial recurring revenues.

The business operates through four platforms, for historical reasons: internet.bs, instra (onlydomains), domain discount 24 (Moniker) and iwantmyname. Retail signs up c 4,700 new customers per month, mainly through online advertising targeting local ccTLD domain searches. This leads to c 3,200 customer acquisitions each month at a customer acquisition cost (CAC) of around US$30 through Google ads. Upselling drives US$95 additional average revenue per user (ARPU) at 47% margin. The average customer lifetime is about three years, with a 72% renewal rate.

The Retail strategy is to move up the competitive pyramid (Exhibit 4), offering a wider range of services beyond its traditional domain name expertise. The intention is to focus on additional services rather than domains, driven by sales and marketing initiatives, to support a number of CentralNic’s brands to take a step up towards the top of the competitive pyramid. CentralNic’s shared services model and increasing scale should allow Retail increasingly to cut central costs, consolidating platforms as well as reducing duplicated regulation and compliance overheads, redeploying resources to focus on the growth of additional services.

This progression offers the potential for improved margins, but also provides a route to improved organic growth, expanding the total addressable market (TAM) from US$5bn (registry services) to US$30bn (including domain-related internet services). Management disclosed that reaching its internal target of 13.7% of sales from additional products would lead to 8% overall growth.

Monetisation: FY19 revenues US$74m, gross profit US$21m, 29% gross margin

In December 2019, CentralNic acquired Team Internet, a leading provider of monetisation services for domain investors, for a total consideration of US$48m in cash, c 4x FY19 EBITDA. Team Internet is the largest domain monetisation platform globally, by revenues.

Team Internet represents a significant change in business mix, bringing an ad-funded revenue stream to the group. Team Internet’s main business, ParkingCrew.com, is a highly automated (c US$1.6m revenues per employee) domain name monetisation service, with the majority of revenues derived from mobile. The remainder of the business is based around TONIC., an automated real-time bidding (RTB) ad-exchange platform, matching advertisers through a demand-side platform (DSP) (2bn+ bid opportunities per month) with publishers through a sell-side platform (SSP), generating 5m+ clicks per month. TONIC. evolved from Team Internet’s original domain monetisation technology.

Team Internet is important to the group’s strategy, as it opens CentralNic up to a new constituency, namely, domain name investors. Team Internet sells advertising on inactive domain names owned by investors that attract referral traffic from search engines, working with c 35,000 partners (investors, publishers and advertisers) to monetise 22m domains worldwide. After a business closes and its domains are acquired by investors, former customers continue to visit those domains; this represents a valuable target audience for competitors, reached through advertising provided by Team Internet.

Team Internet opens up cross-selling opportunities for the group, as well as offering potential synergies.

Management has indicated that CentralNic has seen organic growth over the past couple of years of c 6% pa on average, with lower growth in more mature Western markets and higher growth in the Far East and emerging markets.

At the CMD, Michael Riedl went into more detail on organic growth, suggesting that the underlying organic growth rate between 2018 and 2019 (on a constant currency, life-for-like basis) was c 2%. However, he then went on to estimate that organic growth was 9% in Q119–Q120 based on the pro forma Q119 revenue estimate of US$51.8m. As this growth includes adverse foreign exchange movements (particularly weak euro and Australian dollar versus the US dollar) as well as other one-off items (eg the change to CNIC’s terms and conditions), on a constant currency, like-for-like basis, management estimates that growth was actually c 15% on an adjusted basis.

The group’s auditors are expected to report on the organic growth figure later in the year.

Q120 revenues of US$56.4m (US$226m annualised revenue run-rate) highlight the impact of Team Internet on the group. These results demonstrate CentralNic’s defensive growth credentials, reporting adjusted EBITDA of US$8.1m (14.4% EBITDA margin) despite the onset of COVID-19. As highlighted in the FY19 revenue bridge (Exhibit 7), pro forma revenues for FY19 were US$200.6m (adjusted for intra-group revenues). With a consensus FY20e revenue forecast of US$200.4m (Exhibit 6), management is confident of its FY20 target, despite any impact from COVID-19.

In terms of seasonality, management provided a breakdown of pro forma FY19 revenues, suggesting that they would expect the FY20e breakdown to follow a similar pattern. This shows a stronger Q1 and Q4, each representing c 26% of annual revenues, with a weaker Q2 and Q3, each representing c 24% of annual revenues.

For H120, Edison forecasts revenues of US$99.1m, reflecting a slowdown in Q220 (typically the weakest quarter) over Q120 (implied Q2 revenue of c US$43m), as well as the impact of the COVID-19 pandemic, potentially affecting Team Internet’s ad-driven revenues. We then expect growth gradually to pick up again in H220, assuming a continuing global recovery from COVID-19, with H220 revenues of US$103.4m (+4.3% H2/H1) and FY20 revenues of US$202.5m.

Customers are very sticky in the domain business, given high levels of automation and high switching costs, with transfers between providers amounting to a small proportion of all transactions. This customer stickiness, combined with the high value and quality of earnings of existing customer books, makes the domain industry a very attractive and relatively low-risk industry in which to acquire businesses.

CentralNic’s acquisition strategy is focused on consolidating a fragmented market, particularly targeting secondary markets where competition is less intense and acquisition multiples are commensurately lower. Management has used acquisitions to acquire new talent and technology as well as customers and revenues, with acquisitions being integrated into the group, although retaining their brand independence and continuing to focus on their established markets.

Cost synergies are realised by consolidating technology platforms and support functions, but principally through platform convergence. New businesses are integrated into CentralNic’s existing two core platforms, CentralNicRegistry and RRP Proxy, freeing up development resource to focus on new projects and services.

In FY19, CentralNic completed four acquisitions. Management intends to continue to make further acquisitions, focusing on businesses with similar characteristics to CentralNic’s core businesses (recurring revenues, high customer stickiness) in the domain name space or adjacent markets. Given the nature of the industry, CentralNic’s existing business interacts with or overlaps with the majority of potential future M&A targets and management therefore has good visibility on a pipeline of future M&A deals (Exhibit 10).

To drive organic growth, management intends to increase cross-selling and up-selling across the group, capitalising on its existing domain business by raising the proportion of additional services it sells to customers. Services offered or to be offered include hosting, website building, security certification, domain monetisation, Office 365 sales and support and online brand protection.

To build scale, organic growth will be supplemented by M&A. By consolidating a highly fragmented industry landscape, the group is attempting to build a portfolio of businesses, acquired at reasonable valuation multiples and subsequently deliver value through platform integration, cost efficiencies and cross-selling.

The group has already invested in centralised services and platforms, and now, as CentralNic builds scale, it should be possible to quickly integrate future acquisitions, leveraging these centralised platforms to cut costs, offer a standardised suite of services to its whole client base and free up resources to invest in sales and marketing. As it scales, this platform business should deliver robust growth and enhanced EBITDA margins.