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Avid Technology, the Small-Cap Stock Powering the Streaming Revolution

By Brett Schafer - Updated May 27, 2021 at 9:58AM

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This entertainment technology company is making a transition to a cloud-based subscription model. Does it belong in your portfolio?

As many investors know, streaming and on-demand content have taken over the media industry. Companies like Netflix (NFLX 1.67%), Disney (DIS -0.11%), and HBO are spending billions on TV and movie content, while Spotify (SPOT 0.21%), Apple (AAPL -0.23%), and others are vying for customers in music streaming with high-quality audio services.

But who is powering all this content creation? Enter Avid Technology (AVID 0.56%). The company is the backbone of professional media creation, and could be a great way to invest in this content creation boom. Here's why. 

Two people sitting on the couch watching TV.

Image source: Getty Images.

The business

Avid Technology sells hardware and software tools to video and music creators. It has three main business lines: audio & music, video post & storage, and media platform & cloud.

Audio & music is led by Pro Tools, a suite of software tools for musicians, songwriters, and anyone else producing professional music content. Along with Pro Tools software, Avid also sells hardware to help with audio recording and editing. Pro Tool's target customers are professional musicians, TV and film studios, and sound production teams at live events.

On top of Pro Tools, Avid has a new music distribution product called Avid Play that lets musicians directly upload recordings to popular streaming services like Apple and Spotify, making it easy for artists to bypass the labels and keep 100% of their streaming earnings. Avid is trying to transition its Pro Tools customers to subscription payment plans along with its other business lines. In Q1 of this year, Pro Tools hit 208k paid subscriptions, up 55% year-over-year, which is a sign that so far this transition is resonating with customers.

Video post & storage is Avid's product suite for all forms of video entertainment. Its flagship product Media Composer is the standard software solution in the professional video editing market. Avid also sells video storage solutions through Avid NEXIS, and is working to transition its storage products from on-premise to the cloud in a partnership with Microsoft (MSFT -0.40%) Azure. Media Composer hit 62k paid subscribers in Q1, up 41% year-over-year.

Avid's last main business line is what it calls "media platform". Avid's media segment is geared towards newsrooms and broadcast teams. Its main product is Media Central, a software solution that helps newsrooms internally communicate, push stories, and broadcast across various communication platforms. Like its other business segments, Avid is working to transition Media Central from an on-premise to a distributed, cloud-based solution that will make it easier for newsrooms and reporters to work in different locations.

Avid has dozens of products with confusing names, so understanding what the company does can seem daunting at first glance. But from an individual investor's perspective, you need to know that the company provides hardware and software tools to the professional music, audio, TV, and movie industries, and is currently transitioning its business to a subscription model. 

Subscriptions are improving financials

With its big transition to selling its software products in a subscription format, Avid has started to see strong top- and bottom-line growth, as indicated by the robust double-digit-percentage growth in the numbers of Pro Tools and Media Composer subscribers. While some of its hardware and live revenue products took dips in 2020, causing overall revenue to drop slightly compared to 2019, subscription revenue has continued to grow, and is up 61% in 2020 to $73 million. 

In Q1 of 2021, subscription revenue hit $25 million and made up 26% of overall revenue, vs. 9% in 2018. Management expects subscription revenue to hit 50% of overall sales by 2024. This shift is an important trend, as subscription sales bring better unit economics (gross margin is expected to hit a record 65% in 2021) and free cash flow margins due to more upfront spending on long-term contracts. Investors should watch for subscription sales to continually march higher as a percentage of revenue over the next few years, which would signify that Avid is executing on its business transition.

So is the stock a buy?

Avid Technology has gotten more expensive recently, with shares up over 400% in the last twelve months alone. At its recent investor day, management guided for $47 million-$55 million in free cash flow in 2021. At its current market cap of $1.36 billion, that gives Avid a forward price-to-free-cash-flow (P/FCF) of 29 based on the low end of its guidance. However, if it can hit its long-term guidance of $2.70 in free cash flow per share by 2025, that P/FCF will come down to 11 based on the current share price of $30.07. That is a lot of math -- simply put, what management is telling investors is that if subscription revenue continues to grow, the company can grow free cash flow per share at a high rate over the next five years.

With a strong tailwind from huge budgets in professional video and audio creation, a resurgence of live entertainment coming out of the COVID-19 pandemic, and a continued transition to higher-margin subscription revenue, Avid technology could be a great long-term investment as a bet on the continued growth of professional content creation.

 

Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool's board of directors. Brett Schafer owns shares of Spotify Technology. The Motley Fool owns shares of and recommends Apple, Microsoft, Netflix, Spotify Technology, and Walt Disney. The Motley Fool recommends the following options: long March 2023 $120 calls on Apple and short March 2023 $130 calls on Apple. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Avid Technology, Inc. Stock Quote
Avid Technology, Inc.
AVID
$26.78 (0.56%) $0.15
Netflix, Inc. Stock Quote
Netflix, Inc.
NFLX
$245.17 (1.67%) $4.02
The Walt Disney Company Stock Quote
The Walt Disney Company
DIS
$122.67 (-0.11%) $0.14
Microsoft Corporation Stock Quote
Microsoft Corporation
MSFT
$290.17 (-0.40%) $-1.15
Apple Inc. Stock Quote
Apple Inc.
AAPL
$174.15 (-0.23%) $0.40
Spotify Stock Quote
Spotify
SPOT
$114.39 (0.21%) $0.24

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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