Informatica is a company that makes it easy for businesses to use artificial intelligence (AI) to integrate, manage, and parse data so that customers can do something useful with it. The name might be familiar to longtime tech investors. It was public for over 15 years before being taken private. In this podcast, we explain Informatica's history, transition to the subscription model, and leadership changes as it prepares for a second act on the market.
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This video was recorded on Oct. 15, 2021.
Dylan Lewis: It's Friday, October 15th, and we're talking about Informatica. I'm your host Dylan Lewis. I'm joined by fool.com's idealistic ignoramus of un-indexed information, Brian Feroldi. Brian, how is it going?
Brian Feroldi: Dylan, it is good to be back. It's been a couple of weeks since we've been together, so it's nice to see your smiling face yet again.
Dylan Lewis: It's always good to hang out with your friends, and we get the benefit of doing it on a show for listeners every week. For almost every week, we take some weeks off here and there. We also, in a way, Brian, gets to hang out with our listeners because we get ideas for shows from the folks who listen to the show, and we got one recently for one of our listeners, John. Sometimes the company comes across our radar by way of some of them work with or someone who listens to the show. I haven't heard much about it, and I don't know what kind of direction is going to go on for conversation. In this case, Informatica, a company I didn't know, but a company that lends itself to so many interesting conversations about investing.
Brian Feroldi: This company is involved in data, and it is a company that I got first exposure to about 10 years ago. This company was previously a publicly traded company, it since went private, and John put it back on our radar because they are now coming back to the public markets. Thank you John for the show idea.
Dylan Lewis: Love it. As always folks, you have ideas for the show, [email protected] or @MFindustryfocus on Twitter. Yeah, John wrote in and said, I'd love your view on Informatica. They filed their S-1 last week. They've been around for more than 25-years, went public, went private. Now a second IPO in the works, and they've transformed from selling licenses to subscriptions. This is a business that is in the middle of, Brian, one of the great transformations that we've seen a ton of businesses go through. It opens up a great tech conversation for us, and I think we're going to get into that especially when we talk about the company financials. First, let's just break down exactly where they live in the Cloud because it can be hard to parse that with some of these businesses.
Brian Feroldi: As John teed up, this company is actually almost 30 years old, and they really, Informatica is hyper-focused on data. Specifically something that there is a shorthand fold called ETL that just stands for extract, transform, and load. They are experts and have been for almost three decades at finding data silos, taking that information, cleaning it up, and transforming it so that it can be loaded into whatever application or tool you want to analyze.
Dylan Lewis: The way that I most easily think about this is just the different people that may interact with different companies on that value chain in the Cloud. Say you're using AWS to actually store whatever it is that you have on the Cloud in terms of data, and say you're using something like Salesforce or Tableau for the end-user, it actually makes sense of that data, and they call that the last-mile of data. This company exists in the middle where they are helping people better manage and make sense of it so that those systems can then make it even more useful for the end-user.
Brian Feroldi: This company is targeting enterprises, so really big businesses which have thousands of places that they are actually generating data and possibly 100s that are being stored. One simple way to think about this is simply use phase for this company. Imagine one part of your company is storing customer names in the fields are listed as first-name, last name, and another one you have a different group of customers that's listed as last-name, first-name. Well, you can't just copy those two things together and put them together, you actually need the data to be cleans and cleanse before it can be all loaded into one system. That's the kind of thing that Informatica specializes in.
Dylan Lewis: They bring AI into that process, and so that's a big part of where this company is now. This is not necessarily where this company has been the entire time. They've had to modernize and moves as the industry has moved and become much more Cloud-focused.
Brian Feroldi: That's exactly what we're seeing here and that's what's most notable about this company. Again, this company is almost 30 years old, and 30 years ago, the software business model was perpetual licensing model. With the rise of the Cloud, we've seen many companies have to transition over to a subscription-based model. That's exactly what this company started to do in 2015, and we've seen that transition workout beautifully for a number of companies. However, it always does wank-y these things to the company's financials in the short-term, but the company is at the point now where it's starting to see the fruits of those labors pay off.
Dylan Lewis: It's a painful process to go through, and the numbers get ugly fast, you have to make the difficult decision to sacrifice short-term profitability, very often short-term growth for long-term moving over to what we know to be generally more successful business model. One that's stickier, one that leads to recurring revenue, will be getting into that as we talked about the company financials. But we want to see software businesses and Cloud businesses take this step because we know, Brian, that you need to really in order to survive and to be competitive both as a provider, but really, also for investors to be interested in you as a business.
Brian Feroldi: Yeah. It's definitely where the industry is going, and we've seen so many companies start to get there. But as we've talked about many times in this show, well, the Cloud as an existed for almost 20 years now, it still makes up a relatively small percent of overall compute spend. As a result of that, Informatica is out there meeting customers where they are. It does offer customers help within the Cloud, they can also go for a hybrid model, and the company is also still servicing competencies that are still 100 percent on-premise. No matter where you are in the Cloud transition, Informatica can meet you there.
Dylan Lewis: Why don't we walk through some of the services that they offer, specifically some of their platform services. Just give people a little bit of a sense of what's under the hood with this business.
Brian Feroldi: Sure. The company has a number of different services that focus on. It calls out a few different ones. For the first year is that thing that we just covered, which is data integration or the ETL, the extract, transform, and load. That's just taking data from a number of different databases and systems joining it together and then loading them wherever you work. For example, a commonplace that people are going now with their data is they're going into a warehouse like Snowflake. Number 2, would be a data catalog. That's when you have data coming in that can be discovered and used. Three, would be better governance and privacy. Making sure that only certain employees have access to certain types of information and having policies and procedures followed across the organization. Number 4, would be upsizing the data to make sure that's quality across whatever sources you want to use it.
That could include duplicating things and standardizing it as the example I gave before. The final product would be about master data management and that's making sure that the data that's produced is trustworthy. So really cleansing it to making sure that the data is high-quality as it can be.Yeah. That's a great very brief overview there, Brian and I think it gives us a good sense of the scope here. The buzzword coming up again, again with this business data. That's been a very effective place to be for a lot of businesses. Mostly probably because it is the lifeblood of how a lot of businesses actually get anything done. I always go to the YouTube channel when I'm trying to get up to speed on the business that I don't know very well and they put it front center to say, that is really the advantage that companies have. That is really what companies own and what is proprietary to companies. It's a form of IP that we don't really think about too much, but it is huge in terms of making business decisions and really being able to innovate your competitors.
Brian Feroldi: We're seeing the world generate an absolute avalanche of data and the rate of data generation is growing exponentially. It's easy for us as consumers to say we well, of course, companies are using big data and just leaving it at that. But when you actually get into the nitty-gritty details of making the data, collecting the data, sorting the data, storing the data, and then making it into actual information that you can use to make business decisions. That's a complex process that involves dozens of companies.
Dylan Lewis: We talked a little bit about the business transition that they are currently going through from that perpetual license to software-as-a-service and that subscription model. This is something that they started about six years ago and while that may sound like it's been a while, it takes a very long time for this stuff to totally turnover, Brian.
Brian Feroldi: Yeah, we saw Microsoft go through this, we saw Autodesk growth through this. We saw Adobe go through this and each case the company has to give up a lot of short-term revenue in exchange for long-term revenue. What does that do to the top-line? It really slows the growth down or in some cases make it go negative. If you look back at the last few years, while this company's opportunity is massive and it is growing, top-line growth between 2018 and 2020 with only about five percent. That's because that perpetual sales revenue is transitioning over to subscription-based revenue. Once you get past that painful part, then revenue growth becomes more and more normalized and we're seeing early signs of that happening after the first half of 2021. That's the most up-to-date financial information that we have in the company. Total revenue is growing at about 10 percent rate. My guess is that longer-term, once that transition is fully over, this company's normalized growth rate is somewhere around 15, maybe even 20 percent. But that's why looking backwards, the top-line growth does not look impressive.
Dylan Lewis: Yeah, and it's hard to know exactly when the dynamics are going to take over and really start fueling top-line growth for business. You can get some lens into that by looking at the sources of revenue and just understanding some of the dynamics here. Subscription revenue is what people are going to be incredibly focused on. It's really the thesis for this business and that is growing. I think it's about 25-ish percent year-over-year growth. Most recently, they've that perpetual licensing revenue stream and that is shrinking and it has shrunk dramatically. I think in 2020 is about 40 percent of what it was in 2019, down to about 60 million. That sounds bad and this is where the company wants to be going. Right now we're in this dynamic Brian, where the growth of the subscription business is solid, it has to offset what's happening in the declines with the perpetual licensing business, I think what we'll start to see in 2021, 2022, 2023 is the perpetual licensing business is getting so small that the declines are going to be negligible and the growth that we see on the subscription side is going to become much larger because it's getting on a bigger and bigger base.
Brian Feroldi: That's exactly what I expect to happen too. It is going to be important for investors to watch that subscription-based growth revenue. If you look over the last couple of years, the company's growth in the subscription-based revenue has actually been quite strong, 34 percent as of the most recent quarter and within that subscription revenue, the Cloud is only about a third of total subscription revenue, but that's growing the fastest at about 39 percent. However, the company actually makes revenue from four different sources currently. The first and the one that we should care of, like you said the most about is that subscription-based revenue and that's growing quickly. The second is that perpetual license revenue, which is quickly going toward essentially zero and becoming a rounding error for the company. However, beyond that, the company also makes money from maintenance revenue and professional services revenue. That revenue can be onetime in nature, but it is still a major component of total revenue for the company. As of the most recent quarter, it's still about half of revenue and when compared to the previous period, it was basically at a standstill. We also have to factor in that. The good news is when you combine all of that together, the company's gross margin here is still pretty good.
Dylan Lewis: Yeah, it's incredible. It's in the 70 percent range. The numbers here are super-interesting because the professional services revenue, we talked about this a lot with software-as-a-service-based businesses. To some extent, you just need it. It has to be there. It's almost support or cost of doing business and you have to accept it. It's a drag on growth rates for the most part. Sometimes it can be a drag on margins as well. In this case, it's such a large portion of the overall revenue pie that I think the real value of the subscription business isn't fully being realized yet and probably won't be for a couple of years. You wonder if as that gets bigger and bigger, it starts to look more and more attractive as a business.
Brian Feroldi: That's the hope and like you, I was also impressed with that. Although it is worth pointing out that the company does lump together, maintenance revenue and professional services revenue. It's hard to parse out exactly what the gross margin is on that professional services revenue. But overall, having a consolidate gross margin up in mid-'70s is really impressive. One more thing that's complicating that factor is we'll get to the company's balance sheet in a second, but including that gross margin is a pretty healthy hit for a line item that it caused amortization of acquired technology. It basically has to expense its relationship with customers as an amortization fee, first six months of the year, that was a $37 million hit on the gross margin. Even including that factor, that company is still producing gross margins in the mid '70s is very impressive.
Dylan Lewis: Yeah. For a business that's doing 1.2, 1.3 billion in trailing 12-month revenue, when you get down to the margins, that is something that's going to materially move the needle in terms of percentages. It's going to keep an eye on. I do think there's probably some margin upside for a business like this, as subscription becomes a larger portion of the pie overtime. You think as subscription becomes a larger portion of the pie overtime, Brian, the balance sheet will continue to improve because there will be more cash on hand for them to do what they want with it.
Brian Feroldi: That's the hope. That term that I just mentioned, the amortization of intangible assets, that actually shows up several different times on the income statement, and that's a pretty sizable number. For that reason, the net income statement year is not going to fully reflect the actual cash dynamics of what's happening in the business. That's going to be something that investors need to keep in mind. If you look at the bottom line, this company is producing GAAP losses. But a lot of that are from actually non-operating events; stock-based compensation, the amortization, and the company pays a ton in interest every year. If you strip out those three non-operating costs, the business would be solidly profitable.
Dylan Lewis: I imagine one of the focuses of the capital that they raise from going public will be paying down some of that debt if they're paying a lot out in interest.
Brian Feroldi: Yes, that's exactly right. Before coming up public, this company, as of June 30th, had about $400 million in cash. But it had a total of 4.8 billion in assets. What's the delta between those two? Well, there's $2.4 billion in goodwill. That's not something that we love to see. They also have $1 billion in customer relationship intangibles. That's the thing that they are amortizing. Offsetting that is the fact that they have $2.7 billion in long-term debt. That's not all surprising considering this company was taking private by private equity, it's common for them to load up. In the S-1 that we did have, they did say a major use of the capital that they are raising is to wipe out that debt. Doing so will significantly reduce, if not eliminate their interest expense entirely. Again, looking forward after the company comes public, the income statement should improve dramatically.
Dylan Lewis: We're going to get a little bit deeper on the dynamics of a private equity firm taking the company private and bringing them public. But we have to talk about it briefly here. Just because the financials here are looking awful a lot like a company that has been taken private. This is a rents and repeat formula that we see very often in the space.
Brian Feroldi: That's correct. It's common for companies that private equity to take these companies over, lower them up with that, and then ship them back to the public markets. It did make me happy, the fact that company did call out that it's going to use the proceeds from this capital raise to essentially wipe out as much debt, which is good.
Dylan Lewis: Brian, anytime we're treading into maybe a space that we have some understanding of, we could always use a little bit more help. We always look for the folks who have a pretty good finger on the pulse in the technology space. In this case, checking in with what Gartner has to say in their Magic Quadrant for the space that the company operates in.
Brian Feroldi: Yeah. The company touts right on it's website. If you go right to it's website that it is a category leader in five of Gartner's Magic Quadrant categories. That's impressive that the company is a leader in so many of them. That makes sense also since this company has been around for nearly 30 years, and it also has the customer base to backup that assertion. The company has, as of the most recent quarter, more than 5,000 total customers, 116 of them will spend at least $1 million on this platform moving forward. That also includes 84 percent of the Fortune 100. This company has done a great job at penetrating enterprise space.
Dylan Lewis: Yeah, I think the growth story for this business certainly exists with the classic tailwinds that you'd expect with. There's a lot of growth, a lot of spend in the industry that they're in. There's the added benefit because we've seen this happen so many times. Their licensed model over to the subscription model. The customers already there. You're just moving them over to a more lucrative system for you as the provider and one that probably will keep them around longer. That's a nice floor on a company like this or an investing case like this.
Brian Feroldi: It certainly is. Then just the natural tailwinds of what's going to happen to the data market over the next 10 years. Is there any doubt in your mind that data is going to become more and more important as we move forward? To me, there is no doubt. The company does call out that its current total addressable market opportunity is $44 billion and they expect that number to grow. As we've said many times with companies like this, if it doesn't work as an investment, it's not because the opportunity isn't there.
Dylan Lewis: Yeah. We always like to be able to say that, right, Brian? [laughs]
Brian Feroldi: For sure.
Dylan Lewis: I do want to zoom in on some of the company history and just some of the ownership dynamics here. Because it is a little unique and it's a different story than we often see for companies that we talk about on the show. This company was once public. It listed publicly in 1999 on the Nasdaq, in 2015 was taken private by Permira and the Canada Pension Plan Investment Board, which is super-interesting organization that we could do a whole show on them. But it's basically like a public arm's-length investment arm for Canadian pensions, which is fascinating. It is now looking to come public again. It is coming public under relatively new leadership, this company Informatica. I think this is helpful background because it explains the stakeholders of this business. So 98.8 percent of the Class A shares are owned by Permira or CPP investments and they own 99 percent of the voting power. We see that in all of the S-1. I think some additional context, Brian, that's probably helpful here is, the original founders are not in the picture for this business. We have Gaurav Dhillon and Diaz Nesamoney. They are the co-founders of the company. They've both moved on to other ventures. You don't see them in the executive officers or really in the major stakeholders for this business. I think what's fascinating is Dhillon moved on from Informatica in the mid 2000s and is now the CEO of SnapLogic. The company has a white paper on their website written by Dhillon and James Markarian who is the former CTO of Informatica. It's called, "We left Informatica, you can too." In it, Brian, they say, [laughs] specifically, using Informatica in today's complex digital world is like running a modern company on a mainframe or riding a horse to the office, which is pretty wild to hear [laughs] from the co-founders.
Brian Feroldi: That is remarkable. I can't think of another instance where founders founded a company and then left to start another company. Then saying that other company is essentially [laughs] too old to be dependent on. That is a remarkable thing that has happened. Now, that certainly noteworthy. The role of the founders definitely matters a lot to me. But I still like to look at what's the company actually doing? What are the customers actually saying? If you look at the company's customer list, there's no doubt that they've done a great job at penetrating the biggest companies on the face of the earth. That is a fascinating dynamic that I've never seen before.
Dylan Lewis: Me neither. I think to some extent you can explain it away by saying, this is a business that's been around for almost three decades and a company like SnapLogic is newer to this space. It's only natural that new entrants are going to be Cloud-first in the way that they approach things or a little bit more dynamic, a little bit more nimble. All of that makes sense to me. It is a little interesting. It is a little bizarre, and I thought it was noteworthy. I also want to point out that the current leadership team is fairly new here. We have the current CEO, Amit Walia, who is the product and marketing Chief and rose to executive in 2020, replacing Anil Chakravarthy who was put in charge once the company was taken private and oversaw the company shift to the cloud and to subscription revenue. We have a relatively new CEO and the person who was not necessarily at the helm for this massive transformation that the company has gone through over the last six years.
Brian Feroldi: On the flip side, as part of our standard due diligence, we always like to head to Glassdoor and say, well, what do the people that know this leader best think of them. Walia gets really good reviews on Glassdoor. The company has stuck, it's 4.3 stars out of 5, 96 percent of them approve of the CEO. That's on a few 100 ratings. That's likely to be a very accurate number. I don't love it when CEOs are brand-new to the quarter office, but I feel a whole lot better about them when they spend at the company for a long time and have risen through the ranks. I think investors should feel pretty good about Walia's rise to that quarter office.
Dylan Lewis: Yeah. I think you can spin that however you want to. You can look at something like that and say, oh, well, I'm surprised that in bringing this company public, they didn't put someone in charge who has already run a publicly traded company. On the flip side, you could say, oh, I don't want an outsider who doesn't know the company culture, running a business, and is there as someone to basically bring the company public and is more shareholder and Wall Street minded than company minded. It really comes down to what narrative you want to buy in there, Brian.
Brian Feroldi: Yeah. There's nothing wrong with both. Personally, I value tenure more than anything else. The fact that he has been there for eight years does give me comfort. A lot of companies, especially founders, the first-time they are running a public company is when they take their company public. They also have a balance of that.
Dylan Lewis: Brian putting a bow on all this, when you look at the company and you look at the investing picture in its totality, what do you like, what don't you like?
Brian Feroldi: Well, I really like the SaaS transition billing from a perpetual to a SaaS business model as one we've seen work time and time again. I think there are signs that the company has a strong brand leadership in the space, and I think once you get started on this platform, it's hard to get off. I think the company does have a competitive advantage that's built for itself. I'm really impressed with the gross margins. I think the net income statement is going to be dramatically understated looking backwards in case trying for rapid improvement moving forward, love the customers that they have. I think the long-term opportunity is there. I was pleasantly surprised with the Glassdoor ratings and the leadership. Offsetting that is the fact that the founders are gone and it's [laughs] not great see them poking fun of the company. The balance sheet is pretty ugly Pre-IPO, I don't know what's going to look like fully post IPO. We don't know the valuation. We don't really know what the long-term growth trajectory, we don't know the cash flow statements, and I am always wary about buying private companies that are coming public from private equity. I've seen that not work out more often than it does. Because of that, this is more of a pass for me than anything else, but I do see reasons to like it.
Dylan Lewis: I'm with you on the private equity side. I mean, I think markets exists because there's a variety of people and them with different timeframes, different objectives. I've seen that the evaluation for this company coming public could be somewhere in the double-digit billions, like 10, 11, something like that, which would be a pretty solid return for this private equity firm over five or six years, basically, a double from where they bought them. I do worry that those types of firms are not necessarily incentivized to build the best long term businesses, but are really incentivized to maximize returns for the period that they own the business. So I worry sometimes that as a public investor getting a company that's been brought public again, you wind up in a spot where we're a bag holder for a company that has been put in a position where it looks great and there's a really great narrative to sell but you're the one stuff with the debt load that's private equity company has put on this business.
Brian Feroldi: Yeah. I think all that's fair. As I said, we don't know the valuation. To me, this is a company that I would definitely focus on the valuation. The company is no longer in hyper-growth phase. It's growth is going to be, I think, probably dependable, but relatively unmuted, so long term, maybe the company grows at a 15-20 percent. This isn't going to be like a MongoDB or a HubSpot that is just now entering the hyper-growth phase or that phase is behind this company. So when you do that, you do have to be more focused on valuation. If it came public at 10 billion, 12 billion, I think that that would be a pretty fair number. If we've seen what's happened with a lot of companies like this where they come public at 20 times sales or 30 sales, I would be far more price-sensitive.
Dylan Lewis: Yeah, I think that's 100 percent right. I have to say shut off to John for putting this one on our radar. While it is one that we weren't like overwhelmingly interested in, I think it's a cool watchlists stock. It's always interesting to look at businesses in transition. I think it led to some really cool conversations. Just about the way that different people in the market operate and what to look for in businesses.
Brian Feroldi: I always like learning more about the way that data works and the integrations and what's actually happening in the market. It's a huge market. If you are a tech investors, it's what you need to know.
Dylan Lewis: Brian, you're one of my favorite tech investors. Thank you so much for hopping on today's show with me.
Brian Feroldi: Thanks, Dylan. Great to be here.
Dylan Lewis: Listeners that's going to do it for this episode of Industry Focus, do have any questions you want to reach out and say, hey, shoot us an email at [email protected] or tweet @mfindustryfocus, looking for more of our stuff, subscribe on iTunes, Spotify, or wherever you get your podcasts. As always, the been program may own companies discussed on the show. The Motley Fool may have formal recommendations for or against stocks mentioned. Don't buy or sell anything based solely on what you hear. Thanks to Tim Sparks for his work behind the glass today and thank you for listening. Until next time, Fool on!
