DemandTec, Inc.: Cracking the consumer
Secrets of the consumer are coming undone, exposed by DemandTec’s breakthrough marketing software. DemandTec, Inc. (Nasdaq: DMAN) leaves little to the imagination: its suite of scientifically infused software tells retailers and makers of consumer products how to attract sales, price goods, run promotions, mold and predict demand, and drive profits.
Trading publicly since August but started in 1999, DemandTec has grown into a leader of commerce software, sporting a client list of the biggest retailers: Wal-Mart Stores, Inc. (NYSE: WMT), Safeway Inc. (NYSE: SWY), Target Corporation (NYSE: TGT), Best Buy Co., Inc. (NYSE: BBY) and Office Depot, Inc. (NYSE: ODP), among others. It also markets to consumer products companies, including Campbell Soup Company (NYSE: CPB), Cargill, PhilipMorris and Johnson & Johnson (NYSE: JNJ).
Even DemandTec would find it hard to better shape its own returns since its initial public offering at $11 per share. Its shares have rallied 50% in a little more than two months, closing Friday at $16.59. The high so far is $18.55 on Oct. 10, hit as the company rallied after second-quarter returns released Oct. 4 exceeded analyst expectations. Its market capitalization has grown to more than $420 million.
Revenues in the second quarter of fiscal 2008 ended Aug. 31 rose 40% from the previous year to $14.7 million. Sequential growth was 11% from the first quarter. The company gets its revenues from customer agreements that cover the use of DemandTec’s software and services that go with it. Revenue is recognized over the term of the agreement, which tends to run two to three years. On a non-GAAP basis, the quarterly loss was $0.02 per share, versus a penny gain in the same quarter a year earlier.
DemandTec also pleased investors by projecting revenues for full fiscal 2008 of $60.2 million to $60.7 million—up 40% year-over-year. The San Carlos, Calif.-based company said on its quarterly conference call that earnings for the year would be $0.07 to $0.08; in the third quarter, DemandTec expects to earn $0.03.
“DemandTec’s consumer demand management solutions are clearly resonating within the retail and consumer goods verticals and we believe that the company is in the early stages of a multi-year growth opportunity,” analyst Jason Maynard at Credit-Suisse wrote in a research note following the conference call. Maynard repeated his “outperform” rating, saying that the company’s second-quarter results reaffirmed a very attractive small-cap growth story.
Maynard said, too, that the predictive analytics that DemandTec provides differentiates it from competitors. “With its strong market leadership and clear value proposition to customers, we are comfortable that the company should be able to sustain revenue growth in the 30% or higher range throughout the next couple years,” Maynard said in his research note.
Analysts also were enthused by the strong cash flow generated by DemandTec. Laura Lederman, at William Blair & Co., noted that cash flow from operations was $2.5 million, up 46% from $1.7 million in the year ago period. “This number was significantly above the $1.4 million we had forecast,” she said in a research note. Free cash flow was $1.6 million, up 42% from the same quarter the prior year.
Lederman maintained her “outperform” rating and is looking for fiscal 2009 earnings of $0.28, virtually quadrupling DemandTec’s guidance for $0.07 to $0.08 for 2008. She said most enterprise software, such as business intelligence and supply chain, improves back-office operations or save costs, but DemandTec's services also drive sales. “We believe customers are turning to DemandTec because it provides arguably the most complete demand-optimization solution available,” Lederman said.
How does DemandTec crack open the consumer psyche better than the wily coyotes of traditional enterprise software application companies, such as Oracle Corp. (Nasdaq: ORCL) and SAP AG (NYSE: SAP)? For one thing, it drops anvils of new software at roadrunner speed. The company has three development tracks, staggering its software release dates so something new comes out every six weeks. Others send out new software every 12 to 18 months.
DemandTec’s consumer demand management (CDM) software also adds scientific insight into the minds of customers. It is packaged as software-as-a-service technology to help retailers and consumer goods manufacturers reach financial goals—very different from the cost-lowering supply chain model in the 1990s. DemandTec, saying the old ways of determining price are no longer sufficient, adds to customers’ revenues. Lederman, citing management, wrote in her note: “DemandTec’s customers have achieved product-specific revenue improvements of 1% to 15% and margin improvements of 2% to 20%.”
Maynard says the company “leverages networked data via their exclusive relationship with AC Nielsen. Once that data is aggregated, DemandTec applies its patented technology to help retailers and consumer product companies optimize their pricing strategies.” He says DemandTec’s “differentiated approach could only be delivered via the on-demand model, thereby creating significant barriers to entry.” Customers benefit because they get predictive analytics rather than a set of tools that make them figure out the best approach.
But the brawnier and crafty competitors pose a threat. DemandTec says CDM technology is relatively new, so contention for business will heat up, potentially increasing pricing pressure and hurting margins. So far, DemandTec sees nothing new from others coming into the market. Instead, despite the August and ongoing woes of retail, its customers are “very bullish to use DemandTec to drive sales,” management said on its conference call.
That’s good news, because renewals of sales agreements are vital. What’s even better is that the company has no significant renewals coming up in the next 12 months, only mid-sized and smaller contracts. DemandTec takes in a large part of its revenue from a small number of clients, with one customer accounting for 14.5% of second-quarter sales.
DemandTec’s growth strategy depends on inflection points and a chase for its software. Right now, 90% of the company’s revenues come from retail clients, with the rest from consumer goods manufacturers. At some future point, DemandTec wants a 50/50 split between these two client groups. It is counting on adding retail clients, who in turn will pressure their consumer product maker partners to get with the DemandTec program.
Growth also is expected to come from overseas; international sales now are at 13% of total. CONAD, the giant Italian supermarket concern, recently signed up as a client. In management’s view, Italy will now become another market where other retailers and consumer products companies will have to respond by coming on board with DemandTec.
But getting on board with the stock at the current price is another matter. Based on Friday’s close ($16.59), it is trading at 59 times Lederman’s $0.28 per share earnings forecast for fiscal 2009. It’s already blasted past the price objectives of certain bullish analysts; none have changed their bullish outlooks and instead have raised expectations.
Compared with expectations that revenues can grow 30% or more annually for at least a couple of years, that valuation doesn’t seem outlandish. After all, DemandTec’s burning up the road and blowing the concept of a consumer enigma sky high.
