CentralNic Group — Organic growth momentum continues

CentralNic’s momentum continued in H122, delivering last 12 months (LTM) organic revenue growth to 30 June 2022 of 62%, as CentralNic’s privacy-safe Online Marketing solutions benefited from an online advertising market squeezed by tightening privacy measures and regulatory concerns.

H122 gross revenues increased 93% y-o-y to US$335m (H121: US$174m), with net revenues rising 51% to US$82m (H121: US$54m), a gross margin of 24.5%, down from 31.2% in H121. Adjusted EBITDA rose 97% to US$39m (H121: US$20m), with a slight up-tick in margins to 11.5% (H121: 11.3%), although Q222 margins were 11.3%. Margins have been on a weakening trend as Online Marketing has substantially outgrown Online Presence. Adjusted EBITDA/net revenue increased to 47% in H122 (H121: 36%), with CentralNic benefiting from improving operating leverage (Exhibit 2).

Reconciling H122 adjusted EBITDA (US$39m) and operating income (US$22m), the principal elements were: US$15m of amortisation and depreciation (H121: US$11m); US$3m of non-core operating expenses (H121: US$5m), primarily M&A and integration related costs; a US$4m foreign exchange gain (H121: US$1m); and US$3m of share-based payment expenses (H121: US$2m) related to acquisitions. This resulted in CentralNic reporting H122 PBT of US$16m (H121: a loss of US$2m) and PAT of US$7m (H121: a loss of US$3m). H122 adjusted EPS rose 59% to 8.5 cents (H121: 5.3 cents).

CentralNic’s cash generation was particularly strong in H122, with US$38m of cash generated from operations (H121: US$17m), not far short of the cash from operations for the entirety of FY21 (US$43m). Adjusted operating cash conversion was 110%, with cash rising to US$95m at 30 June 20022 from US$56m at 31 December 2021, despite the acquisition VGL. As a result of the strong cash generation, net debt (including mark-to-market on the bond hedging) fell 22% to US$64m at 30 June 2022, from US$81m as at 31 December 2021 (30 June 2021: US$84m). Excluding mark-to-market on the bond hedging (the cash flow hedging reserve stood US$17m at 30 June 2022), net debt at period end fell to US$47m.

Given the group’s strong cash generation, its relatively modest gearing (net debt/FY22 adjusted EBITDA below 1x and interest cover above 5x), together with the ongoing bond refinancing, which management anticipates will deliver better terms for the group, we would expect further acquisitions later this year. Management has noted a full M&A pipeline as well as an intention to maintain its historical pricing discipline.

CentralNic breaks its revenues into two segments, Online Marketing (the dominant division, representing 77% of gross revenue and 67% of net revenue) and Online Presence.

Management reports that Online Marketing has so far proven immune to a slowdown in advertising spending. Accordingly, management is confident that CentralNic is comfortably trading towards the high end of recently upgraded consensus (disclosed as FY22 revenues of US$642m and EBITDA of US$64m).

Pro forma LTM organic revenue growth was 62% to 30 June 2022 (53% to 31 March 2022), driven by Online Marketing. Although we recognise that these growth rates may slow at some stage, it remains hard to identify an immediate trigger for a slowdown in growth, with the division facing a US$100bn+ opportunity and having already taken significant adverse economic factors in its stride and continued to perform. However, in the current economic climate, we remain cautious.

Based on its H122 figures, CentralNic is on course to deliver annualised gross revenues of US$669m, net revenues of US$164m and adjusted EBITDA of US$77m, with Q4 typically the strongest quarter for advertising revenues (Exhibit 3). As such, we feel very comfortable upgrading our FY22 revenue forecasts by 12% to the top end of consensus (US$642m), and, assuming no sudden slowdown in Online Marketing, and with CentralNic benefiting from improving operating leverage, we would expect the company to exceed these numbers. Based on unchanged FY22 margin assumptions, FY22 adjusted EBITDA also rises 12% to US$73.9m.

CentralNic is also in advanced discussions to refinance its bonds and expects to announce the outcome of the refinancing, ahead of the group’s Q322 trading update in October.

Online Marketing will struggle to sustain the level of growth seen in FY21 and H122 indefinitely, as the FY21 comparators get progressively more challenging, together with the impact of broader macroeconomic headwinds. As a result, CentralNic is likely to see a natural moderation in organic growth for Online Marketing, and therefore for the group, over the next 12 months.

As we have noted before (51% organic revenue growth in Q122), both Apple and Google have introduced policies to phase out support for third-party cookies, which facilitate personalised targeting by profiling users for targeted advertising. Similarly, Apple’s privacy controls (first introduced in April 2021) restrict use of Apple’s identifier for advertisers (IDFA), which allows advertisers to track user behaviour within mobile apps and websites. Instead, app owners now need to seek explicit permission from users before being able to track third-party usage.

As the regulation of personal data tightens, management expects other performance marketers to suffer falling advertising rates before CentralNic, driving down the price of traffic and allowing CentralNic to achieve better margins through its current monetisation channels. Management believes that this has been a critical factor behind the strong performance of Online Marketing over the past 12–18 months.

As a result of the constriction of personalised targeting, advertisers are increasingly turning to privacy-safe contextual advertising as an alternative solution. CentralNic’s contextual marketing proposition does not rely on first-party data, but uses the multiplicity of non-personal third-party data that is still openly available.

CentralNic has carved itself out a niche in the contextual advertising space, taking traffic from numerous smaller sites (with a surplus of under-monetised traffic) to then be monetised by search engine operators, which attract a surfeit of corporate advertising budgets but have a deficit of monetisable traffic.

According to management, the traffic that CentralNic delivers fully corresponds to specific searches and achieves demonstrably the same return on investment, prices and conversion rates as organic search traffic. Importantly, no element of the value chain sees a diminution of value, with customers converting at comparable rates and advertisers achieving comparable conversion rates.

CentralNic is one of only a few companies that perform this specific activity, others being: System1 (SST:NYSE), which is the largest operator, generating about twice the revenues of CentralNic; and Sedo (owned by United Internet), which management estimates generates about half the revenues of CentralNic. System1 takes more of a ‘walled garden’ approach, preferring its in-house technology solutions, whereas CentralNic has an open ecosystem, using external as well as internal solutions. CentralNic’s approach has been delivering far higher revenue growth rates than System1’s, helping CentralNic to capture market share from System1.

Management believes that CentralNic’s approach is robust and resilient to a downturn, as search advertising is the preferred format and most other ad formats are incremental and therefore more prone to reduction in demand. Accordingly, pricing on the demand side is expected to be more robust than on the supply side, allowing for an increasing arbitrage opportunity.

As CentralNic has demonstrated over the last 12–18 months, growth remained strong during the COVID-19 pandemic, accelerated afterwards and has continued to accelerate even after the impact of the invasion of Ukraine and despite growing inflationary and geopolitical issues.

The acquisition of VGL (acquired for €60m in March 2022) delivered a portfolio of content-rich websites to CentralNic, whereas the domain-name investors whose sites CentralNic manages, deliver a portfolio of largely content-free websites. VGL’s reviews tend to identify five key categories for any given product set: the best; the worst; the cheapest; the best price/quality; and the best seller. Management sees this as a parallel business model to its core search referral approach, with traffic from VGL carrying a specific purchase intention (enriched with search traffic) then delivered to e-commerce partners for monetisation and fulfilment.

In this respect, VGL’s model aggregates traffic before redirecting it to CentralNic's e-commerce partners for monetisation, whereas contextual advertising aggregates traffic for monetisation via search. VGL delivers a CPM more than 50% higher than search referrals because of the more focused purchase intent and fewer intermediaries. These high CPMs allow CentralNic to cost-effectively acquire traffic at premium rates from third-party websites, which can then be blended with search traffic and monetised at attractive rates through CentralNic's e-commerce partners.

Online presence delivers CentralNic a network of websites owned by domain investors. For this network of sites, CentralNic has developed website building software that can auto-generate a very basic website dynamically. Traffic from this network of third-party sites is monetised by showing search ads on these auto-generated pages, contributing to the strong organic growth seen over the past 18 months.

CentralNic continues to trade at a material discount to its online marketing and web services peers.

Given a lack of comparators in Europe, the online marketing peer group is focused on North America (Exhibit 7). Peer valuations have eased considerably despite average current year sales growth averaging 25%, compared to 56% for CentralNic. Average EV/EBITDA multiples are now 20x and 16x for FY22 and FY23, respectively, with P/E multiples of 32x for FY22 and 27x for FY23. Despite a 72% five-year revenue CAGR and its superior current year growth trajectory, CentralNic trades at a c 65–75% discount to these multiples.

We have also looked at a web services peer group. Disregarding Verisign, which we include for completeness, the web services peer group trades at an average EV/sales multiple of 2x for FY22 and FY23 and EV/EBITDA multiples of 7x for FY22 and FY23. In terms of P/E multiples, the web services peer group trades at 17x for FY22 and 14x for FY23.