Spruce Point Capital Management Announces Investment Opinion: Releases Report and Strong Sell Research Opinion on Intuit Inc. (NASDAQ: INTU)
NOTE TO EDITORS: The Following is an Investment Opinion Issued by Spruce Point Capital Management
Believes Intuit’s Small Business & Self-Employed Segment Lacks Transparency, Faces New Competitive Threats, and is Unlikely to Execute Successfully on Stated Growth Vectors
Highlights That Major Acquisitions Mailchimp and Credit Karma Should Detract From Intuit’s Valuation Given Their Inferior Revenue Characteristics, Competitive Struggles, and the Large Discount the Market is Ascribing to Their Publicly-Listed Peers
Details TurboTax’s Alleged Unsavory Corporate Behavior, Questionable Disclosures, Deteriorating Growth Profile, and Existential Risks From the IRS Direct File Program
Highlights Intuit’s Failure to Effectively Productize, Much Less Monetize, AI and Underappreciated Risks Related to Data Compliance and Security and Financial Partners
Contends That, Adjusting For Accounting and Financial Reporting Distortions, Intuit’s Financial Profile is Far Less Attractive Than Perceived
Estimates That Intuit’s Share Price Faces 40%-80% Long-Term Downside Risk When Applying Highly Defensible Sum-of-the-Parts and Free Cash Flow Based Valuation Methodologies
September 20, 2024 09:00 AM Eastern Daylight Time
NEW YORK--(BUSINESS WIRE)--Spruce Point Capital Management, LLC (“Spruce Point” or “we” or “us”), a New York-based investment management firm that focuses on forensic research and short-selling, today issued a detailed report entitled, “An Intuitively Taxing Valuation,” that outlines why we believe and estimate that shares of Intuit Inc. (Nasdaq: INTU) (“Intuit” or the “Company”) face up to 40% – 80% potential long-term downside and market underperformance risk. Download and view the report, disclaimers, additional information, and exclusive updates by visiting www.SprucePointCap.com.
Spruce Point Report Overview
Founded in 1983 in Palo Alto, CA, Intuit is one of the oldest major software companies. The Company has long been known for its two niche, yet dominant franchises, QuickBooks for micro-business (<10 employees) accounting and TurboTax for consumer tax preparation. In recent years, Intuit has fueled growth by offering additional services such as payroll and payment processing to its QuickBooks customers. In addition, the Company spent $20 billion on the acquisitions of Credit Karma (lead generation) and Mailchimp (email marketing). An early adopter of data analytics, Intuit has repositioned itself as an “AI-enabled expert platform.” In its fiscal year 2024 ending July 31st, the Company reported $16.3 billion and $3.0 billion of revenue and GAAP net income, respectively.
Long viewed as a solid, if unspectacular, grower and a solid corporate citizen, Intuit has been a beneficiary of hype surrounding artificial intelligence (AI) and currently trades at 11x NTM revenue, making it one of the most richly valued software companies. However, we have grave concerns about underlying trends in its core franchises, questionable large M&A transactions, the credibility and transparency of the Company’s accounting and financial reporting, the Company’s increasingly frequent episodes of alleged consumer-unfriendly behavior, and the sustainability of its current premium valuation. The issues we analyze in our report include:
- We believe investors should be concerned that Intuit’s Small Business & Self-Employed (SBSE) segment has become increasingly opaque as competitive threats and growth pressures mount.
- SBSE has become a black box with several sizeable non-core revenue streams. In FY 2024, only half of SBSE revenue was from QuickBooks software, and 30% of that came from the Desktop offering (half of which comes from the Plus product that has been discontinued). Arguably the most exciting part of the segment is the growing services business which has largely been driven by payroll and other payment processing offerings. Yet, we believe the payments business is decelerating as the penetration of existing customers has largely run its course. The SBSE segment also includes an estimated $600 million of revenue from a variety of other non-core, low value-added revenue streams, including small business term loans (approaching $1 billion held on Intuit’s balance sheet with underappreciated risks), float, and financial supplies (paper checks and payments hardware), none of which we believe are worthy of the current 11x revenue multiple. Not only does Intuit fail to disclose any detail around the size of the numerous service revenue streams (further clouded by the inclusion of Mailchimp), but the Company also provides investors practically none of the business and financial metrics commonly disclosed by its peers. In fact, the SEC questioned Intuit’s disclosures and transparency in a February 2024 comment letter.
- QuickBooks faces new competitive threats. While we acknowledge its high share and sticky nature, QuickBooks’ micro-business customer base suffers from (1) elevated rates of failure and churn, (2) user satisfaction ratings that leave a lot to be desired, and (3) a set of traditional competitors that have grown in scale, number, and credibility. But more importantly, we believe the investment community underestimates the risks posed by vertical SaaS commerce platforms such as Shopify, Square, Stripe, and others. Not only do these companies provide the core platform for managing micro-businesses, but they also offer a richer array of tangential business management capabilities that span marketing, human resources, supply chain, and financial management. Even more concerning, all these platforms are increasingly offering embedded accounting tools (currently provided by third parties but potentially to be developed internally in the future). We believe this may fundamentally disrupt the market by obviating the need for QuickBooks.
- We believe QuickBooks’ two major growth strategies will fail to deliver. Intuit has long vocalized two primary growth strategies for QuickBooks: mid-market penetration and international expansion. However, despite their inherent logic, we believe both strategies are failing. We believe neither QuickBooks’ product capabilities nor Intuit’s micro-customer sales motion are credible for larger customers, and our review of payments metrics shows little mid-market success. As for international, Intuit touted the potential of Brazil, France, and India in 2018, only to subsequently exit these markets given the challenges of adapting product to new markets and establishing new financial institution links. Moreover, despite Mailchimp’s international presence, we do not believe it will provide an effective avenue for cross-selling. Given these challenges, we are troubled that Intuit only disclosed the pull forward of $50 million of QuickBooks Desktop revenue into FQ1-FQ3 2024 on its recent FQ4 earnings call, having allowed investors to assume stronger than expected trends for most of the year.
- We believe Intuit dramatically overpaid for the Mailchimp and Credit Karma acquisitions and that both businesses should detract from the Company’s value.
- Mailchimp is a lower quality business that we believe is losing share. With little differentiation, low switching costs, and representing discretionary spend, we view Mailchimp’s email marketing business as inherently weaker than QuickBooks. Our research finds its offering receives among the lowest reviews in a far more crowded competitive landscape. In fact, we believe Mailchimp has been a major share donor, as both Similarweb and BuiltWith data suggest a marked deterioration in usage, particularly among larger customers. We highlight that peer Klaviyo has grown revenue at a 55% CAGR compared with Mailchimp’s 18% revenue growth since Intuit’s FY 2021. Yet, despite this superior growth profile, Klaviyo trades at 8x NTM revenue, a 25% discount to the 11x multiple seemingly ascribed to Mailchimp.
- We believe Credit Karma was a terrible deal for Intuit. As a financial product lead generation company, Credit Karma’s revenue is (1) not recurring, (2) highly sensitive to macroeconomic conditions, and (3) highly episodic. This is why other consumer lead generation public companies only trade at 1x NTM revenue. Not surprisingly, Intuit recently revised downward the long-term revenue growth outlook for Credit Karma, but even these targets may be difficult to achieve. Consumer balance sheets are stretched, Buy Now, Pay Later (BNPL) is threatening demand for credit cards, and the universe of incremental material financial partners is limited. Moreover, we believe the recently announced merger of Capital One and Discover (both major Credit Karma customers) may prove to be an adverse event that threatens post-deal spend and reduces negotiating leverage. Google trends search data and Similarweb site traffic and app download data both show continued challenges that are reflected in the segment’s declining revenue and member growth, deteriorating monetization, and increasing customer acquisition cost (CAC). We believe these troubling trends can be partly explained by the Company’s settlement with the FTC following allegations of deceptive practices and what seems to be high levels of user dissatisfaction with the product. Finally, we believe Intuit’s botched shutdown of Mint resulted in the material loss of users, degrading the value of an asset once characterized as highly strategic.
- Despite its strong market position, Intuit’s TurboTax business is threatened by anti-consumer behavior, questionable disclosures, unsettling trends, and growing existential risks.
- We believe Intuit’s actions around TurboTax have been an embarrassment. Intuit has a long history of anti-consumer behavior related to TurboTax, which we view as a sign of stress. Nearly 70% of Americans can file for free, but Intuit’s alleged deceptions have contributed to very few taking advantage of those options. In fact, Intuit has been flagged by regulators numerous times for alleged abusive and deceptive marketing practices, and we found evidence that these practices continue. Intuit is also aggressively lobbying to keep the US tax code complex, because a simplification would likely decimate its growing TurboTax Live offering, if not a large portion of its non-Live business.
- The existential risks TurboTax faces have only become more real. TurboTax arguably should not exist, as tax preparation software is not even required in most developed countries. We believe TurboTax may be severely handicapped one day by the government’s new Direct File program for free filers, which we argue was a great success in its initial rollout this past tax season. In fact, 74%-93% of Direct File users preferred it to their previous filing method. Intuit used to tout its penetration of the free filer market as a strategic feeder pipeline for filers who graduate to paid users. Perhaps not coincidentally, Intuit suddenly did an about face and claimed it is better served abandoning those filers to focus on higher value, more complex filers. We believe this is an ominous change of tune driven by Direct File’s success, the impacts of which investors should more closely scrutinize.
- We find the Company’s TurboTax disclosures to be extremely opaque and difficult to reconcile. We have trouble making sense of Intuit’s historical disclosures, as estimates are used where actuals exist, figures change years after they were finalized, and data trends diverge from IRS disclosed activity. Based on our analysis, we find evidence Intuit may at best be incorrectly reporting and at worst potentially overstating TurboTax market share. Regardless, we believe TurboTax has lost market share in the past two years.
- Intuit’s rapidly growing TurboTax Live offering has failed to energize a segment recovery. Intuit has disclosed shockingly little about the Live product that now accounts for $1.3 billion of revenue. In our attempts to piece together a historical picture of Live’s growth, we find that Live’s pricing power has been unimpressive and that overall TurboTax revenue growth is lower than before Live launched, suggesting the franchise could be simply cannibalizing non-Live customers or treading water to replace churned non-Live business. We also highlight the human-intensive nature of assisted offerings and are suspicious that Intuit is not properly disclosing the costs related to their delivery.
- Finally, Intuit’s ProTax segment is both far less dominant than TurboTax (and seemingly losing share) and growing at a 4% revenue CAGR, making the 11x multiple ascribed to its revenue seem wildly excessive.
- Despite its frequent promotion, including re-branding the entire Company as an “AI-enabled expert platform”, we believe AI is doing little for the Company. Moreover, AI and other operating risks seem to be increasing.
- We believe AI is neither generating revenue nor materially reducing costs. Intuit’s AI used for its TurboTax Assist product was panned by a tech writer for an extremely high, if not dangerous, error rate. Thus far, Intuit has said that AI will not increase near-term revenues (and Consumer segment revenue per seasonal worker is actually declining), and our analysis of Company disclosures suggest cost efficiencies have been extremely modest as well (<2% efficiency improvement last year).
- We see growing risks surrounding Intuit’s AI models and use of customer data. Intuit continually touts its data advantage (i.e., its own customers’ financial information) for training its AI models. However, we question whether Intuit could fall victim to calls for reimbursement from customers similar to what has been sought by media organizations from the current AI leaders. More importantly, Intuit’s use of personal tax data for purposes other than filing individual tax returns may potentially run afoul of Internal Revenue Code §6713. In fact, the Company received a letter warning of such from the FTC last September. Additionally, we find that Intuit has a spotty record of data compliance and security.
- Intuit’s banking-as-a-service (BaaS) partners represent underappreciated operational and reputational risks. Since Intuit does not have a banking license, the Company collaborates with several questionable banking partners to deliver a variety of financial products offered by its QuickBooks, Credit Karma, and TurboTax businesses. These include Green Dot, which received a consent order from the Fed relating to poor compliance and also has a history of consumer fraud allegations and recent material organizational turmoil. In addition, Green Dot was recently fined $44 million by the Fed potentially in part for what we believe is an Intuit co-branded product. Intuit’s other BaaS partner, MVB Bank, is a micro-cap, West Virginia-domiciled bank that raises numerous red flags. As the recent Synapse bankruptcy has demonstrated, the risks related to questionable BaaS partners is real, and we fail to understand why Intuit would associate with such companies.
- We are concerned that Intuit’s ever-changing segment reporting practices and other accounting distortions are allowing the Company to embellish its profitability.
- We believe Intuit has made numerous highly questionable decisions regarding its segment reporting in recent years, including obfuscating QuickBooks results by consolidating Mailchimp in the SBSE segment, not adequately disclosing the impact of Mint’s move to Credit Karma, and using different expense reporting practices for Credit Karma. However, perhaps the most concerning is reclassifying material segment operating expenses into corporate expenses, which we believe has had the effect of obfuscating segment margin pressures resulting from the rollout of labor-intensive assisted offerings. Our analysis of COGS stock-based compensation (SBC) expense and average employee salaries further confirms our suspicions regarding Intuit’s ballooning labor costs. For example, COGS SBC / GAAP COGS has grown by 10x since the launch of TurboTax Live and the divergence between GAAP and non-GAAP gross margin reached 3.4% in FY 2024.
- We also believe accounting distortions mask a markedly less attractive profit profile. We believe Intuit’s GAAP net income is overstated given what we view as aggressive assumptions related to the massive $5.9 billion of intangibles created by the Credit Karma and Mailchimp acquisitions. Specifically, Intuit assumes 13-15 year useful lives for customer relationships, compared with other public company transactions that averaged 5.8 years. Assuming 5-year useful lives, which is particularly appropriate given what we know about those businesses, would reduce Intuit’s GAAP net income by over 20% and drop net margins to just 14%. We also believe Intuit’s cash flow from operations (CFO) is also overstated. Adjusting for payments for employee incentive compensation taxes and net loan originations (as other fintechs do) would reduce CFO by over $1.4 billion in FY 2024. Further adjustment for Intuit’s share repurchases to offset the dilutive effect of SBC reduces CFO by 69% versus the reported figure and cuts the CFO margin to just 9%. Finally, Intuit’s ROIC has cratered from a peak of 38% in FY 2018 to just 10% in FY 2024 (well below its 11.5% WACC) under the tenure of CEO Sasan Goodarzi, and we show that Intuit compares unfavorably with other large horizontal software peers in terms of profitability, visibility, growth investments, revenue outlook, and balance sheet strength.
- We believe Intuit is one of the most overvalued large technology companies in the public markets, and multiple valuation methodologies yield substantial long-term downside risk.
- Intuit is trading at 11x NTM revenues, representing a premium multiple despite our findings of modest anticipated growth, core franchise troubles, consumer-unfriendly behavior, underappreciated business risks, and poor transparency. Moreover, we believe Intuit’s long-term revenue growth targets established at last year’s analyst day lack credibility, as FY 2024 actual and FY 2025E projected revenue growth for the Consumer and Credit Karma segments came in materially below stated goals.
- We see investors and analysts embrace a variety of valuation “stories” for Intuit, including horizontal SaaS leader, fintech pioneer, and AI innovator. However, we believe that no matter which of these you choose, none of them are able to justify the current valuation. We find that, as an SMB-focused company, Intuit embodies many of the attributes that typically drive discounted SaaS multiples. Even if you simply ascribe the non-core SBSE revenue streams (interest income, financial supplies, royalties) and ProTax the 1x it deserves (rather than the 11x it gets), there is 6% downside in Intuit shares.
- We perform a sum-of-the-parts estimated analysis based on Intuit’s varied revenue streams. However, in an attempt to be fair, we use reasonable peer company multiples for our “low” case and either Intuit’s current 11x revenue multiple or the highest valued peer company as the “high” case. However, even using these assumptions, which we believe are generous, we see 21%-79% long-term potential downside risk. In addition, since some analysts reference free cash flow multiples for large, mature software companies, we perform an adjusted FCF based valuation analysis that implies 53%-74% potential downside in Intuit’s share price. We believe Intuit could see a material multiple de-rating over time, and thus we expect the shares to underperform those of its software peers, the technology sector, as well as the broader equity market.
