Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope...
Operating as two powerful, independent, focused companies, ServiceMaster and Frontdoor can now each benefit from increased focus and flexibility to better serve customers, drive organic growth, and unlock significant long-term value for shareholders.
That's how ServiceMaster CEO Nik Varty describes the future of his own company, ServiceMaster Global Holdings (NYSE:SERV), with its stable of brands like Terminix, Furniture Medic, and Merry Maids. It's also the future he sees for the company ServiceMaster just spun off: Frontdoor (NASDAQ:FTDR), which inherited probably the company's best-known brand, American Home Shield (AHS). And already, some analysts on Wall Street are nodding their heads.
Here's what you need to know.
Opportunity knocks at Frontdoor
Oppenheimer initiated coverage of Frontdoor stock this morning with an outperform rating and a $48 price target for a couple of reasons.
First, the analyst likes Frontdoor's legacy business model, represented by American Home Shield's "core warranty business" of selling home warranties to new and existing homeowners.
A home warranty is a hybrid contract with elements of both an insurance contract and a service agreement. In exchange for a monthly fee, an AHS subscriber gains access to a network of on-call contractors who can do plumbing, electrical, and other home repairs. Upon requesting a repair, subscribers pay an additional service fee for the repair (the service aspect of the contract). This fee, however, is fixed, and no matter how expensive the repair ultimately turns out to be, the subscriber pays no more than the agreed fee. In this regard, a home warranty also provides the subscriber a level of insurance against unexpected costs.
Oppenheimer sees Frontdoor's core AHS business continuing to grow in the "high-single-digits," as explained in a note today on StreetInsider.com (subscription required). The analyst also believes that Frontdoor has the potential to duplicate the AHS business model by selling similar hybrid contracts to homeowners for such services as "HVAC tune-up, carpet cleaning, utility line protection, etc." -- perhaps "in partnership with a utility or large home center."
An even bigger opportunity
What really gets Oppenheimer excited about Frontdoor, however, is the fact that the company has hired Rex Tibbens, former chief operating officer of ridesharing service Lyft, to run the company.
Citing a "blue-sky scenario" based on "Tibben's intentions to create the Lyft of home services," Oppenheimer describes how Frontdoor could leverage its "unique network of 15,000 contractors" to create an "'on-demand'" service for home repairs. This idea does have appeal.
Imagine your dishwasher breaks down and begins leaking water all over the kitchen floor. What do you do?
In the olden days, you might flip through the Yellow Pages in search of an appliance repairman. Today, you'll more likely turn to Google or Angie's List for a recommendation. Either way, however, this takes time -- and that puddle on the floor just keeps growing.
But what if you could simply open up a Frontdoor app on your smartphone, enter your request, and be instantly matched with a nearby contractor who's got an opening in his schedule and can fix your problem right now?
Valuing the opportunity
I imagine that would be a pretty popular service. But for investors, we still have to consider the stock price, and whether Frontdoor's valuation looks attractive in light of the opportunity ahead of it. So how do we do that?
With Frontdoor so newly independent, reliable financial data on the company is hard to come by. But here's what we know: ServiceMaster had 135.6 million shares outstanding at the time of its spinoff. During that spinoff, shareholders received one share of Frontdoor for every two shares of ServiceMaster they owned. Thus, Frontdoor's share count should be about 67.8 million today. Multiplied by a recent share price just shy of $44, that probably works out to a valuation of about $3 billion on the stock.
Is Frontdoor worth that much?
According to data from S&P Global Market Intelligence, had Frontdoor been independent before now, it would have earned profits of $155 million over the past 12 months, with free cash flow 15% higher -- $178 million. Against a presumed $3 billion market cap, that works out to a valuation of less than 20 times earnings for Frontdoor shares, and less than 17 times free cash flow.
Those don't look like unreasonable valuations for a stock growing its core business in the "high-single-digits," and potentially growing into new opportunities at a much faster rate. If Tibbens turns out to be as inventive and aggressive as Oppenheimer seems to think he will be, this analyst just might have found itself a winner.