Thryv Holdings (NASDAQ:THRY) is the largest independent producer of Yellow Pages in the United States. It doesn’t take a genius to understand that this is a disastrous business and that it is basically a melting ice cube where time plays against it. This is exactly why I believe this is a special situation, as behind this unattractive business, there’s a developing SaaS business that is growing at rates of 20-25% per year.
The Yellow Pages business is clearly in decline. However, it has EBITDA margins close to 35% and generates enough cash flow to continue financing the development and growth of the SaaS segment.
Thryv Holdings provides digital marketing solutions and cloud-based tools to the small-to-medium sized businesses (SMBs), as we will explore in more detail later on.
The company operates within two distinct segments:
1. Marketing Services.
This division provides the Yellow Pages in both print and digital versions through channels such as Yellowpages.com or Superpages.com. Additionally, it aids in optimizing clients’ web pages for search engines (SEM) and employs search engine optimization (SEO) tools on platforms including Google, Yahoo!, Bing, Yelp, and other notable directories.
In the year 2020, this segment contributed to 88% of the total revenue, a proportion that declined to 82% by 2022. This trajectory suggests that the significance of this business within the company’s sales is likely to continue diminishing, a trend that we will delve into further in the Valuation section.
2. Software as a Service.
The company launched its SaaS venture in 2015, delivering software to SMBs that empowers entrepreneurs to engage with customers, oversee schedules, handle payments, and effectively manage their businesses through smartphones.
While this might not sound like a groundbreaking concept, Thryv finds itself in a favorable position due to its history with the Yellow Pages. At one point, it boasted nearly every small business in America as its client, which has granted it a solid reputation and established relationships within this sector. Furthermore, small businesses aren’t the target clientele for giants like Salesforce and Oracle. These corporations wouldn’t gain substantial benefits from this market due to the relatively modest revenue each customer would generate for them. Recognizing this gap, Thryv identified an opportunity to thrive in this underserved niche, overlooked by larger corporations.
Thryv’s current focus is on a market of around 4 million SMBs in the United States (achieving a 10% market share in 2021) and over 8 million globally (capturing a 5% market share). The advantage I mentioned earlier comes into play here: 60% of new customers in the SaaS sector were already clients of the Marketing Services, resulting in virtually zero customer acquisition costs. The digital marketing solutions market is projected to grow by 17% over the next 7 years in US alone. Therefore, industry trends alone would already facilitate growth in this segment.
This industry presents an opportunity for the SaaS segment to continue flourishing within the SMB niche, which has been disregarded by larger corporations because mall businesses don’t represent a substantial revenue source for companies like Oracle (ORCL) or Automatic Data Processing (ADP), and Thryv enjoys the added benefit of minimal costs for acquiring new customers and high retention rates.
A crucial aspect for this business is the absence of debt issues. Our interest lies in maintaining the company’s viability for as long as possible to facilitate the ongoing development of the SaaS segment.
Currently, this scenario holds true. The company presently bears a net debt of $417 million (calculated as short-term assets minus total liabilities). This amounts to 1.25 times the EBITDA generated in 2022. This ratio has been consistently decreasing year after year, signifying that the company now boasts a stronger financial position.
Revenues do not present an impressive picture, primarily due to the dominant presence of the Yellow Pages business, whose sales decrease every year. However, as previously mentioned, our anticipation is that this segment will continue to decrease in terms of its contribution to sales.
Fortunately, in 2022, there has been a shift in this trend. THYV experienced an 8% growth, providing a hint that this change in trend is already starting to materialize.
The Gross Margin has been increasing consistently year after year and currently stands at around 65%. Additionally, the EBITDA margin is close to 28%, largely due to the Yellow Pages business maintaining margins of nearly 35%.
Despite the declining nature of the Yellow Pages business, the company remains highly profitable with an average profit margin of 7% and a Free Cash Flow of 15%. This translates to a trading PER of 30x, yet a remarkable FCF Yield of almost 15% (equivalent to 7.5x FCF).
Skin in the Game
CEO Joseph A. Walsh has held his position since October 2014 and assumed the role of Chairman of the Board of Directors in December 2021. Earlier in his career, he co-founded IYP Publishing and in 1999 was featured in Forbes magazine’s article ‘Entrepreneurs – Up and Eaters.’
Presently, he possesses a 5.7% ownership stake in the company, valued at $48 million. This ownership represents nearly 40 times his base salary. Between August 2022 and May 2023, he acquired nearly $555,000 worth of company stock. This demonstrates his profound trust in the company’s future and his belief that around $20 USD is a favorable price.
The managers’ compensation comprises a base salary, which for the CEO stands at $1 million per year, aligning well with averages in companies of similar size.
Cash incentives are also awarded based on achieving targets for EBITDA growth, Free Cash Flow, and SaaS segment sales. Additional bonuses are granted if these targets are surpassed. Although I am not particularly inclined towards setting targets solely based on EBITDA, the consideration of Free Cash Flow and SaaS sales aligns appropriately with my preferences.
I appreciate that these two factors account for 50% of the compensation, as it reflects what we need for the business: leveraging Free Cash Flow growth to fuel the expansion of the SaaS segment.
The company’s current focus on channeling its resources primarily towards the growth of the SaaS business has led it to abstain from paying dividends. Over the past five years, the company has sourced 86% of its financing through debt, which was then allocated towards both repaying the same debt and investing approximately 5% of that capital back into the business.
Additionally, occasional special dividends have been disbursed during this period.
The management team’s projection envisions the SaaS business achieving revenue nearing $1 billion by 2027, while sustaining EBITDA margins of 20%.
Personally, I view this outlook as highly optimistic, as it implies a Compound Annual Growth Rate (CAGR) of 35%. Consequently, my estimation leans more towards conservatism, projecting a CAGR growth of 10%. This rate is slightly below the industry’s expected growth. However, I maintain the same 20% margins as anticipated by the management team.
As for the Yellow Pages business, my belief is that it will persist in declining at a rate of 10% annually, while keeping EBITDA margins at 30%. I have to admit this projection might appear too conservative, given that the segment experienced nearly 5% growth in 2022.
Based on these estimates, THRY could potentially generate $240 million in EBITDA within the next five years. By then, SaaS sales would nearly contribute to half of the total revenues. With an EBITDA multiple of 8x and debt amounting to 1.5x EBITDA, an expected Enterprise Value of $2 billion is plausible.
This projection translates to a 21% CAGR in share price, assuming that the company refrains from share repurchases or issuance. It’s noteworthy that over the past five years, the outstanding shares have decreased from 56 million to 37 million.
The most significant risk, naturally, is the potential inability to achieve the SaaS business’s projected growth rate. However, it is worth mentioning that even if we project lower growth, around what is expected from the sector, the return on our investment continues to look attractive. This means that there is a margin of safety in the price to deal with this risk.
Another risk would be that it could take several years for the market to correctly value the new SaaS business, so Thryv shares would be ‘dead money’ for that long despite any improvement in the company’s fundamentals. This by itself does not mean that the company is a bad investment, but it does entail a hypothetical case of side years in the share price, which would not be difficult considering that Thryv is a little-known small cap.
In my opinion, Thryv is so cheap because of the market unawareness of the hidden assets behind the unremarkable Yellow Pages business. And while it may take years for the market to properly value the assets, this just means investors would have more time to grab a significant slice of the business while closely monitoring its performance and having greater room for maneuver in case things do not go as expected.
Interestingly, the segment of Yellow Pages manages to maintain decent margins and Return on Capital Employed despite its decline in revenues. This allows the company to continue generating the Free Cash Flow necessary to develop the SaaS business and to avoid debt problems. Just what is needed for the investment to succeed.