Not So Deep Dive: Mitek Systems Stock
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(Ryan) What they do: Mitek is a leading provider of mobile capture technology and digital identity verification solutions. And they serve more than 7,500 financial services organizations. Pretty much just 2 business lines, so I’ll go through each of them.
The 1st is Mobile Deposit. This accounts for 67% of the company’s sales and is the older of the two businesses. So today, when a customer wants to deposit a check, with pretty much all financial institutions, you can open a banking app, scan the front and back of a check and have it instantly deposited. In most cases, that’s Mitek’s mobile deposit technology at work. (90 of the top 100 US banks use them). And in exchange for this service, Mitek collects a fee on each check deposited. It used to be around $.50/check but has increased to around $.85 per check. Often the banks front this cost too because it’s still cheaper than opening a branch or paying for 3rd party ATM services.
The 2nd part of the business is Mobile Verify. This accounts for 33% of revenue but it’s much younger and should be a bigger part of the business in the future. And mobile verification helps banks make sure people are who they say they are. So if someone is applying for a loan or opening a bank account or anything that could be remotely sensitive, they can use Mitek’s verification algorithm to scan their ID and authenticate that it’s really them. And they built this part of the business largely through acquisitions.
(Ryan) History: Mitek Systems was first founded in 1986 and the company is headquartered in San Diego, CA. For the life of me, I could not figure out who created the company. I have absolutely no idea who it was. And there just generally wasn’t that much history on the company. They’ve been public pretty much since their founding, and they lost more than 94% of their value in the dot com crash.
Other than that, from what I could find, notable historical items include basically lawsuits and acquisitions. They settled a dispute with USAA in 2014, but that feud doesn’t seem to have ended. In 2018, USAA sued Wells Fargo and then PNC Bank for patent infringement of their mobile deposit capture technology which was supplied to them by Mitek.
It doesn’t look like these have been resolved yet and both banks could seek reimbursement from Mitek if the suits go through.
The industry is mobile check deposits and digital identity solutions
Identity verification is estimated to be a $7.6 billion market that is projected to grow to $15.8 billion by 2025
Management claims with ID R&D acquisition their TAM expands to $23.5 billion
Competitors: Jumio, Intellicheck, IDNow, and a ton of smaller competitors. Lots of small start-ups that Mitek Systems likes to acquire (management talked about this being part of their strategy)
(Brad) Management and Ownership:
CEO – Max Carnecchia —> 76% glassdoor rating
CEO and president since November 2018
Former CEO of Illuminate Education (SaaS meets education)
CEO of Interwoven (content management) – bought in 2008 and led 21 quarters of revenue growth + 7% gross margin improvement
Former CEO of Accelrys which was another successful exit that he was able to consistently grow over 5 years from $75M to $185M in revenues
CFO – Susan Repo → looks like she was the CFO for about 5 seconds from June to July 2021 – there was a news release and then nothing but she is still a board member
Former CFO at Iceye and only been in the role for a few months
BOD member at GM’s new financial bank
Former CFO of Tesla Finance and VP of Finance + Corporate Treasurer
CEO of a company called DriveOn for 12 months – jumps around a lot but a lot of really good experience
Current CFO – Frank Teruel
Former COO of a company called Adara
Former CFO of ThreatMetrix which looks like a hyper-growth digital identity firm
Founded Aquamunda to provide clean water for the developing world
Adjunct Faculty at Santa Clara University
4 CTO – Stephen Ritter since March 2016
Former Sr. Director of Engineering at McAfee
Executive at a lot of other firms that are private and I’ve never heard of
Looks like all directors and executives own 3.4% of the common stock overall but they do have some handsome options packages. For example, Max’s stake can go from 120,000 shares to around 170,000 with the options he already has. Will have more if they execute. Looks like about 70% of the company is held by institutions without a lot of activity.
Market cap of $784 million, ticker MITK
EV of $678 according to my basic calculations (using EV because they are CF positive)
EV/s of 5.7
EV/GP of approximately 6.4
EV/OCF of 18
Lots of potential dilution from the convertible notes, but they actually haven’t granted any stock options this year as of June 30. They have granted 808k RSUs though
(Ryan) Earnings: Just reported FY earnings, but didn’t file their 10-K yet.
FY revenue was $120M, up 18% YoY (comprised of almost a 50/50 split between software and hardware revenue and services revenue)
88% aggregate gross margins
Software and hardware revenue has 96% gross margins
OCF of $37.4M, which is up 55% vs a year ago (31% OCF Margin)
Judging by last year, there’s typically minimal capex. So FCF should be close to OCF.
But they do spend about 10% of their revenue on SBC. (They raised a $135M convertible at a little under $21/share due in 2026). So there should be some dilution down the road)
Net income is minimal
(Brad) Balance sheet and liquidity:
Cash + investments = $227.4 million
Cash flow from operations is $25.6 million over the first 9 months of this year & $8.5 million of that is SBC so not crazy
$120 million (15.3%) in convertible senior notes but looks like that’s the only debt (issued $155 million and paid off some other debt with a 0.75% interest rate and some solid conversion rights)
It has another $10 million credit facility
(Ryan) I think my bank uses its check deposit technology. And ya it works well. I don’t think I’ll ever go to a bank branch to cash a check.
(Brett) the double-digit growth of the industry checks out. There are a lot more industries that ID verification that could be very useful. Two that come to mind are online dating and Airbnb-style rentals.
Future growth opportunities:
(Ryan) Their future seems to be really relying on the growth of the verification business. And from what I know about the identity authentication business, Intellicheck has the most accurate solution. I believe there’s has 99% fraud detection, whereas Mitek’s is like 80%. If that’s the case and they know it’s the case, they should buy Intellicheck. $100M market cap.
(Brett) Acquisition of ID R&D. They are really pushing for the ID verification market and this is supposed to help with their capabilities. A $49 million acquisition so fairly sizable for them. The company is an expert in facial and voice biometric capabilities which help against deepfakes and synthetic voice stuff. Hard to exactly identify what it will do since the identity technology can be sort of a black box but should help with Mitek’s overall capabilities when selling to companies.
(Brad): They operate in digital banking with identity functions enabling mobile check deposit and remote account opening. Digital banking (no nobody’s surprise) is a rapidly growing sector poised to yield a 15-20% CAGR through 2030. Good space to be in.
Highlights and lowlights:
(Ryan) Highlights: Huge installed base to cross-sell ID verification services. All banks pretty much need this and Mitek has existing relationships with most financial institutions in America. Plus they get consistent cash flow from their deposit business. Lowlights: Written checks are declining by 3-4% per year. And I don’t like the overhang from USAA. I don’t know how much Wells could seek to have reimbursed by Mitek but they were sued for ~$300 million.
(Brett) Highlights: The asset-light model makes them super-profitable, durable tailwind from the industry that should be around forever, and masked profitability right now with identity solutions segment still operating in the red (according to management) but with great unit economics Lowlights: I don’t like the convertible notes if the didn’t need them and/or won’t go big on buybacks to offset dilution at a lower price, there’s no clear data on how well their stuff works which leave investors without relevant information, customer concentration with three customers over 10% of revenue.
(Brad) Highlights: I like the model. Most fintech companies are all offering the exact same services and competing on price. It’s commoditized. By being an ancillary supporter for the industry, it can enjoy sector growth without having to spend an absurd amount of money to build a brand Lowlights: Seems like most of their executive positions function as somewhat of a revolving door. And how difficult it was to find information on the founding and the history is also concerning to me.
(Ryan) Deposit business remains steady (shift to digital deposits offsets declining check volume), and they’re able to upsell their verification technology to most of their partners. The ultimate bull case is that they’re able to win the verification market for financial companies. I believe they’re at like 20-25% market share right now.
(Brett) If ID solutions grow at a double-digit rate and margins expand, returns should be adequate if you think they deserve a 20x earnings multiple.
(Brad) The company can compound at a 15%+ clip for the foreseeable future as its digital banking products gain traction and the space rapidly grows.
(Ryan) The Verify market ends up being really competitive and something they can’t win. Couple that with a slowly declining deposit business eventually and you’ve got a likely inadequate investment.
(Brett) Checks business drops off a cliff, and position in ID Market gets disrupted
(Brad) Competition from players like Galileo and Plaid are able to emulate the utility from these products and then some. Mitek gets disrupted.
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Disclosure: The author and podcast guests are not your financial advisors. Ryan Henderson and Brett Schafer are general partners and portfolio managers at Arch Capital. Clients of Arch Capital may hold securities discussed on this show.