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Qualtrics & SurveyMonkey: A Halloween IPO Tale

November 1, 2018

 

Happy Halloween!

 

As expected, Qualtrics filed its Form S-1 registration statement (IPO) on October 19, 2018 under the oh-so-sexy symbol ‘XM'. Qualtrics, backed by VC firms Sequoia and Accel, has been valued at as much as $2.5 billion; soon we'll hear what the market says.


XM's IPO was certainly hurried along by the recent public offering of SVMK (SurveyMonkey). How quickly expectations fade: SVMK began trading on September 26, 2018, as high as $20 and closed at $17.24. Today (October 31, 2018) SVMK closed at $10.71 — a drop of nearly 40% in a month. BOO!

 

Still, SVMK's market cap of $1.31B is nothing to scream at.


Interestingly, both companies are roughly the same “core” size (i.e., revenue from subscriptions), although they got there in very different ways. In 2017, SVMK subscription revenue was $219 million and Qualtrics was $213 million. However, Qualtrics adds nicely to their subscription business with service bureau-style programming, sample, and integration services that combined are $77 million (26% of total revenue) for a grand total of $290 million. SVMK is making a significant effort to expand their team and enterprise offerings.

 

Qualtrics is a different story. While the operating picture is a bit ghoulish, the real story is Qualtrics' growth rate. According to the S-1, as of June 30, 2018, Qualtrics had an overall net operating loss of -$3.4 million, slightly ahead of its 2017 loss of -$3.7 million (amounting to about -2% of revenue). Conversely, Qualtrics’ subscription revenue grew nearly 50% in the full year ending 2017, and 42% in the first six months of 2018. And Qualtrics’ total revenue grew 52% in the year ending 2017, and 40% for the first six months of 2018. The street likes a Cinderella story (sorry, wrong genre), and Qualtrics is certainly that. But maybe I am missing something.

 

Still, SVMK revenue grew at a reasonable 6% between 2016 and 2017, and for the first six months of 2018 grew somewhat faster at 14%. But this was not enough to overcome a gaping operating loss of -$27 million (the first six months of 2018).

 

Given weak financials and a significantly depressed stock price, SVMK looks like a juicy acquisition target. Likely prospects include Facebook (limited survey capability but a vast supply of sample) and Google Forms (part of G-Suite with basic functionality). Are scary spirits propping up the stock price?

With rapid acceleration, costs at Qualtrics have also grown fast. As revenue from labor-intensive “professional services” grows, labor cost growth must outpace revenue. These costs are not as scalable. Qualtrics’ “professional services” gross margin (currently at -20%) drags subscription margins down (which are 80%). Sales and marketing expenses are a whopping 50% of revenue (with R&D at just 15%). License fees are not funding more R&D; instead, fees largely support the sales team, marketing, and the Qualtrics Summit. That doesn't seem like a very sustainable business model to me. Maybe I am missing something.


Qualtrics says that their “business model relies on rapidly and efficiently landing new customers and expanding our relationship with them over time.” Translation: XM's cross-sell tentacles quickly reach across organizational boundaries wherever feedback is involved. Qualtrics has smartly leveraged their survey data collection engine across corporate silos with similar data and benchmarking needs (i.e., effectively the back-end of Research Core).

 

This templated approach is attractive for “large customers” (those with $100K+ in subscription revenue) who seek a familiar look and feel, a shared platform, and a tiered pricing model. Large customer growth has been very fast: +60% in the six months ending June 30, 2018, impressive by any measure. Qualtrics is also able to leverage its technology investment by modularizing its code base.


Qualtrics claims to have created a “new category of software, Experience Management, or XM™, which enables organizations to address the challenges and opportunities presented by the experience economy.”  This is largely magical thinking for the IPO syndicators and future investors. In reality, there are only so many whales. The pod is fairly static and growth of 50% YOY is simply unsustainable in any industry. Maybe I am missing something.

 

Qualtrics has a few options: headcount and cost reduction, price increases, and perhaps packages for lower-end customers (and hope to upsell/cross-sell). These don't seem likely. Rather, as Qualtrics continues its rapid move into consulting (and away from DIY subscriptions), they will be attractive as an acquisition target for companies in software, accounting, and management consulting. And Qualtrics fits well into a blockchain-enabled, supply-chain world.


No doubt, the IPO will make the founders very rich. But with a sweet acquisition offer, the management team may find itself working for a new employer sooner than they think. But maybe I am missing something.

 

BOO! That's a scary story indeed!

 

 

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