Opera

Opera: Phantom of the Turnaround – 70% Downside

Hindenburg Research’s report titled, “Opera: Phantom of the Turnaround – 70% Downside.”

Q4 2019 hedge fund letters, conferences and more

Opera

(Source: GS StatCounter)

Summary (NASDAQ: OPRA)

  • Opera went public in mid-2018 based largely on prospects for its core browser business. Now, its browser market share is declining rapidly, down ~30% since its IPO.
  • Browser gross margins have collapsed by 22.6% in just one year. Opera has swung to negative $12 million in LTM operating cash flow, compared to positive cash flow of $32 million for the comparable 2018 period.
  • Opera was purchased by a China-based investor group prior to its IPO. The group’s largest investor and current Opera Chairman/CEO was recently involved in a Chinese lending business that listed in the U.S. and saw its shares plunge more than 80% in just 2 years amid allegations of fraud and illegal lending practices.
  • Post IPO, Opera has now also made a similar and dramatic pivot into predatory short-term loans in Africa and India, deploying deceptive ‘bait and switch’ tactics to lure in borrowers and charging egregious interest rates ranging from ~365-876%.
  • Most of Opera’s lending business is operated through apps offered on Google’s Play Store. In August, Google tightened rules to curtail predatory lending and, as a result, Opera’s apps are now in black and white violation of numerous Google rules.
  • Given that the vast majority of Opera’s loans are disbursed through Android apps, we think this entire line of business is at risk of disappearing or being severely curtailed when Google notices.
  • Instead of disclosing to investors that its “high-growth” microfinance segment could be imperiled by these new rules, Opera instead immediately raised $82 million in a secondary offering without disclosing Google’s changes to investors.
  • Opera’s short-term loan business now accounts for over 42% of the company’s revenue and is responsible for eye-popping top line “growth”. Meanwhile, the segment experienced massive defaults (~50% of lending revenue) and company-wide cash flow has worsened.
  • Post IPO, Opera promptly directed ~$40 million of cash into businesses owned by its Chairman, including $30 million into a karaoke app, and $9.5 million into an entity used to acquire a business that Opera had already operated and funded, via a questionable transaction.
  • We think Opera collapses on its own worsening financials, with that timeline accelerating significantly if Google bans its lending apps or if its Chairman/CEO continues to draw cash out of the business through questionable related-party deals.

Initial Disclosure: After extensive research, we have taken a short position in shares of Opera. All APR extrapolations/calculations were based on a 365 day year. This report represents our opinion, and we encourage every reader to do their own due diligence. Please see our full disclaimer at the bottom of the report.

Opera

(Source: GS StatCounter)

Introduction

When a new management team takes over a declining business, it can become a race against the clock to cash out. This is what we think is going on at Opera, a company based around a once-popular web browser that is now seeing its userbase erode.

In the year and a half since its IPO, Opera’s browser has been squeezed by Chrome and Safari, with market share down about 30% globally. Operating metrics have tightened, and the company’s previously healthy positive operating cash flow has swung to negative $12 million in the last twelve months (LTM) and negative $24.5 million year to date.

With its browser business in decline, cash flow deteriorating (and balance sheet cash finding its way into management’s hands…more on this later), Opera has decided to embark on a dramatic business pivot: predatory short-term lending in Africa and Asia.

The pivot is not new for Opera’s Chairman/CEO, who was recently involved with another public lending company that saw its stock decline more than 80% in the two years since its IPO amidst allegations of illegal and predatory lending practices.

Opera has scaled its “Fintech” segment from non-existent to 42% of its revenue in just over a year, providing a fresh narrative and “growth” numbers to distract from declining legacy metrics. But with defaults comprising ~50% of lending revenue, this new endeavor strikes us more as short-term window dressing than a long-term fix.

Furthermore, Opera’s short-term loan business appears to be in open, flagrant violation of the Google Play Store’s policies on short-term and misleading lending apps. Given that the vast majority of Opera’s loans are disbursed through Android apps, we think this entire line of business is at risk of disappearing or being severely curtailed when Google notices and ultimately takes corrective action.

Meanwhile, Opera has exhibited a troubling pattern of raising large amounts of cash (almost $200 million over the past 1.5 years), and then directing portions of it to entities owned or influenced by its Chairman/CEO through a slew of questionable related-party transactions. For example:

  1. $9.5 million of cash went toward an entity that appears to have been owned 100% by Opera’s Chairman/CEO, despite company disclosures suggesting otherwise. Ostensibly, the reason for the payment was to ‘purchase’ a business that was already funded and operated by Opera. To us, this transaction simply looks like a cash withdrawal.
  2. $30 million of cash went into a karaoke app business owned by Opera’s Chairman/CEO, days before the arrest of a key business partner.
  3. $31+ million of cash was doled out for “marketing expenses and prepayments” to an antivirus software company controlled by an Opera director and influenced by Opera’s Chairman/CEO. The antivirus company has no other known marketing clients, but is paid to help Opera with Google and Facebook ads and other marketing services. (Note: Most firms use a marketing agency for help with marketing needs.)

We have a 12-month price target of $2.60 on Opera, representing ~70% downside.

We take the midpoint of the company’s $43 million annual adjusted EBITDA expectations and assign multiples to its business units weighted by contribution. We apply a 7x EBITDA multiple to its browser & news segment (despite the steep profit decline) and a 2x EBITDA multiple to its lending apps, in-line with Chinese peers. We do not assign a multiple to its licensing segment, which the company has stated it expects to “significant decline”. The company has about $134 million in cash (no debt) which we add.

We then apply a 15% discount to account for risks relating to its fintech division, which we believe will be significantly curtailed over the next 12 months (for reasons we explain) and risks relating to management and cash dissipating via questionable related party transactions.

Article by Hindenburg Research


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