Spruce Point Capital Management Announces Investment Opinion: Releases Report and Strong Sell Research Opinion on Perion Network Ltd. (Nasdaq / TASE: PERI)
NOTE TO EDITORS: The Following is an Investment Opinion Issued by Spruce Point Capital Management
Expresses Concerns With Perion’s Extreme Dependency on a Microsoft Search Partnership in Light of the Loss of Yandex as well as With Perion’s Sharp Drop in Revenue per Search and the Financial Reporting Anomalies Emerging With its Publisher Counts and Search Metrics
Questions the Quality of Perion’s Revenue Growth in Light of Abnormally High Revenue per Employee, Retractions to its Revenue Recognition Disclosure and Critical Audit Matter Citation by its Auditor Related to Gross vs. Net Revenue Recognition
Provides Evidence That Perion’s Acquisitions Have Fallen Short of Expectations and That Revenue, Customer and Cost Reporting Anomalies Exist in High Growth Areas Such as CTV, Retail Media and Cookieless Products such as SORT® and iHub
Expresses Concerns About Perion’s Auditor, Audit Fee (4x Below the Industry Average) and Audit Chairman Due to the Prior Business Relationship Between Perion’s CEO and Audit Chair, Notably at ESC Medical Systems (Lumenis) Which Was Charged by the SEC For Revenue Fraud
Questions Perion’s Capital Allocation Decisions and Insider Selling and Also Raises Concerns that Perion Hasn’t Used Any of the $230M Raised Through Equity in 2021, Despite Currently Seeking to Expand Share Authorization by Another 20M
Sees 25% to 40% Long-Term Downside Risk to Perion’s Share Price and Urges Investors to Visit www.SprucePointCap.com and Follow @SprucePointCap on Twitter for the Latest on $PERI
May 23, 2023 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 “Searching For Answers” that outlines why we believe shares of Perion Network Ltd. (Nasdaq/TASE: PERI) (“Perion” or "PERI" or the "Company") face up to 25% to 40% long-term downside risk, or $19.10 – $23.85 per share. Download or view the report by visiting www.SprucePointCap.com and follow us on Twitter @SprucePointCap for additional information and exclusive updates.
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Spruce Point Report Overview
Based in New York City and Tel Aviv, Perion is a global advertising technology company whose solutions are delivered across the three primary channels of digital advertising – ad search, social media and display, including video and Connected TV (CTV) advertising. These channels are brought together by Perion’s intelligent HUB (iHUB), which integrates Perion’s business assets from both sides of the open web, providing benefits to brands and publishers. In 2022, 35% of Perion’s revenue was generated from an agreement with Microsoft Bing, which was amended in 2020 and expires in 2024.
The concerns we outline in our report include:
- Search business appears to be under pressure and over-reliant on a Microsoft partnership where revenues appear to be falling below plan while reporting anomalies emerge. Perion is emphasizing greater risks to its search business. In fact, it specifically reordered Risk Factors to make “Risks Related to our Search Business” the #1 most prominent risk upfront in its recently filed 20-F. In addition, Perion’s newly appointed CEO who assumes the role on August 1st is the General Manager of the search business named CodeFuel. After amending the Microsoft partnership in November 2020, Perion boosted its total revenue assumption over the four-year deal from $800 to $900 million in mid-2021 but added significantly more risk factors to the bottom of its presentation slide. In 2021 and 2022, Perion reported that 37% ($224 million) and 35% ($177 million) of revenue came from Microsoft, or a total of $401 million of revenue. We would have expected at least $450 million of revenue now that the partnership is 50% toward completion. In early 2021, coincident with raising partnership revenue estimates, Perion highlighted its search partnership with Yandex and Microsoft Bing and noted collaborations with other search providers as a top reason it is growing. However, in the February to March 2023 timeframe, Perion removed Yandex as a search partner on CodeFuel’s website. In Q1 2023, Perion also reported that revenue per search day declined -35% and -21% quarter-over-quarter and year-over-year, respectively. It cited a -22% decline in revenue per thousand impressions (“RPM”) but did not elaborate further. In addition, we identified reporting anomalies emerging in daily search figures and in Perion’s publisher numbers. Also in Q1 2023, Perion’s operating cash flow materially declined by -53% and -25% quarter-over-quarter and year-over-year, respectively.
- Multiple concerns with Perion’s revenue reporting and sustainability of recent financial performance. Perion’s revenue and EBITDA vastly exceed other advertising technology companies and put it on par with technology giants Apple, Google, Microsoft and Meta Platforms / Facebook. This is presumably because Perion applies gross revenue accounting, and the Company recently retracted disclosures around factors it considers in applying this accounting choice. In fact, Perion’s auditor noted this accounting principle as a critical audit matter. Perion’s outlier results have also been achieved with suspiciously low capital expenditures, tangible assets and research and development costs that fall significantly below peer industry averages. However, investors should be forewarned that Perion recently revised its disclosure that rented servers have now increased from 1,000 to “thousands” while it retracted Amazon Web Services as its rental partner. We believe this signals rising costs in the future. Given that technology changes rapidly and abnormal profits attract competition over time, we do not expect recent financial outperformance to persist. Perion has been promoting its services in fast-growing CTV and cookieless solutions through its SORT® product, along with its iHub platform. We believe the recent quarter exposed a major hole in the reliability of Perion’s reporting. In Q1 2023, the Company reported that CTV revenue grew 12% YoY, but that does not reconcile with the results presented the prior year, which would have suggested 86% growth. Based on our analysis, we find Perion has been shuffling SORT’s product performance claims, that customer counts do not reconcile and that its campaign predictions are falling below expectations. While Perion claims SORT® will become a major financial contributor, it is currently being offered at no charge and, therefore, we believe it will be a major uphill battle to convert users into paying customers. Perion also recently made changes to its pictograph of iHub. In the most recent version, it not only made the pictograph significantly less elaborate, removed prior figures indicating millions and billions of data points, but also changed the flow of video monetization and social, a key part of the growth story.
- We identified a broad range of troubling aspects related to Perion’s recent acquisitions. Since 2020, Perion acquired Content IQ, Pub Ocean and Vidazoo. However, it has only paid ~30% cash upfront and structured most acquisition payments as contingent earn-outs, if the businesses succeed. Assuming the maximum earn-out is paid, the transactions were completed on average at 1.5x and 8.4x sales and EBITDA. Based on our assessment of the industry, this strikes us as low for technology companies with EBITDA margins on average near 18%. Of all recent acquisitions, our biggest concern is with Content IQ. At Content IQ, the earn-out is still sitting on the balance sheet despite the two-year performance period having lapsed. It was estimated in 2019 to generate $39 million of revenue with a 15% EBITDA margin on just $4,000 of property and equipment, while employing 51 people. Upon accounting consolidation, $9 million of accounts receivable vanished, which raises the possibility of a related-party deal or uncollectable revenue. Notably, Content IQ shares the exact same auditor that Perion uses from Tel Aviv. A shared auditor between parties should be viewed with extreme caution. Furthermore, Wildfire, a business acquired through Content IQ, has not updated its website since at least 2019. Beyond Content IQ, in November 2021 Perion acquired a video management system called Vidazoo which it said served, “hundreds of video-hungry publishers.” At the time, Perion forecasted it would produce 2022 revenues of $55 million, but actual results were $129 million. Despite its significant outperformance, the number of publishers it claims to serve on its website has since shrunk from “hundreds” to just 99 at year-end 2022. Even more concerning is that Perion has not revalued its contingent payment liability towards the maximum amount payable, which we would have expected given Vidazoo’s material revenue outperformance. We also estimate that Vidazoo’s EBITDA margin fell below plan of 17.3% to 15.9%.
- Perion’s capital raising practices are troubling, and Spruce Point believes that Perion’s financing activities are a major red flag. The Company conducted two large equity issuances in 2021, raising approximately $231 million of cash. However, given the cash flow it claims to have generated since 2020 (and capital raised from options) totals $252 million, it could have more than fully financed its $108 million of total capital needs (including acquisitions). A worst-case potential scenario is that Perion’s cash flow is not what it appears to be and that the cash is needed to cover its tracks. Now with $436 million of unrestricted cash on the balance sheet, and no financial debt, Perion’s recent annual meeting notice to shareholders asked investors to authorize the creation of 20 million new shares. As part of its rationale, the Company said, “We may need to issue ordinary shares or other securities in connection with possible acquisition(s) or for equity-based awards for talents in order to preserve and increase our market competitiveness and expand our business.” However, it issues approximately 2.3 million shares for employee programs annually, which would not necessitate increasing the share capital base with its existing authorization. We believe its citation, which emphasizes the need to “preserve and increase our market competitiveness,” is a major red flag for investors.
- Concerning history of business dealings between Perion’s CEO and Audit Chairman. Doron Gerstel, Perion’s CEO and the architect of the Company’s remarkable recent financial performance, is described in Perion documents as a successful executive having led a company turnaround before. However, his biography fails to state that he was the COO at ESC Medical Systems (later named Lumenis Ltd.), which was a U.S. exchange-listed, Israeli company with operational issues that faced numerous legal challenges. The SEC eventually investigated the company and requested documents that overlapped with Gerstel’s tenure. Though Gerstel was not charged, the SEC eventually brought charges against two executives for a fraud scheme involving revenue and its largest distributor. That distributor relationship began in 1996, the same year Gerstel joined ESC Medical Systems. Michal Drayman, Perion’s audit chairman, also held various financial roles at ESC and Lumenis, but also was not implicated in the scheme. Later when he was the CEO of publicly-listed Syneron Medical, Gerstel led an investment in Rakuto Bio Technologies, a company linked to chairman Drayman. We believe that Perion’s shareholders should require its audit chairman to have no historical financial or business dealings with its CEO.
- Perion has many aspects of a stock promotion, and we see 25%-40% downside risk. Given Perion’s leading technology claims and strong financial performance, we are struck by the lack of institutional-caliber, fundamental technology growth investors owning it. When using Similarweb to evaluate organic search interest in Perion, by far the largest keywords relate to the stock or investment, rather than searches one would expect to see related to its products or technology. On top of that, there is a chorus of sell-side analysts that recommend Perion as a “Buy.” However, the most bullish analyst – who forecasts a $42 price target – has a troubling association with the AOL/Time Warner revenue fraud case. Spruce Point believes there is significant downside risk to Perion’s share price as it is signaling financial strain and will have difficulty in hitting its lofty growth targets. Given the concerns around customer and revenue reporting combined with the growing opacity of the Company’s financial disclosures, notably around revenue recognition and server rental costs, it is difficult to ascertain its “true” earnings. However, even assuming street projections for EBITDA are achieved and that its valuation multiple normalizes to at, or below, its longer-term average, we still conservatively estimate 25% – 40% downside risk ($19.10 – $23.85 per share).
The research note can be found at www.sprucepointcap.com and updates will be posted on twitter @sprucepointcap.
