TPS Trade Alert – April 5, 2016

Recommendation:

Buy ReachLocal (NASD: RLOC) up to $2.05 per share.

 

The Opportunity:

Just what kind of a penny stock are we looking at here?

A battered and bloodied digital marketing company that’s down for the count?  Or a good company that’s ready to stand back up and get back to its habits of revenue growth?

That’s the question you’ve got to ask when you look at ReachLocal, Inc.

There might not be a profitable second act for Yahoo!, and we might never see toppled giants like AOL and Research In Motion stage a significant comeback.

But there are some very good reasons why ReachLocal could turn out to be a different story.  It never grew to dominate its market like AOL or Yahoo!, but it grew too quickly, bit off more than it could chew, and got in trouble.

Today, we see the past few years of scaling back and the focus as a good opportunity.

ReachLocal is in the business of selling online marketing to local businesses.

Most local businesspeople either don’t know much about digital marketing or don’t have the time or inclination to learn.  You can’t expect a plumber or a florist to know about website coding and search engines.  But most of them seem to know that their former go-to marketing solution, the Yellow Pages, is a rusty relic.

This is why there is a good opportunity for ReachLocal to regain its footing in a very real and very large market.  The challenge has been monetizing this market, because of the sales-intensive nature of finding, cultivating, and growing a local, small business client.

What ReachLocal Is Doing Right Now

The company is focusing on marketing a product that lets local businesses improve their search engine results.

It has dusted off an old product called ReachSEO.  It has improved the product, which is designed to give small businesses an edge with locally focused search.  It’s a search engine optimization service… which is a highly competitive field.

Will ReachSEO develop significant traction?

The company is marketing the product with what it calls a “consultative onboarding process”.  It will handle the technical work designed to get a local business prominent exposure on local directories, and in local results on search engines like Google.

The company also markets a subscription product for recurring revenue, ReachEdge marketing automation software.  2014-15 year over year growth for RechEdge is 53%.

 

Trade Rationale:

We are banking on growth from both the ReachEdge and the ReachSEO revenue streams.

ReachLocal management is projecting Q1 revenue in the $77-$79 million range, with adjusted EBITDA of $1.8 to $2.8 million.

The million dollar swing on EBITDA clearly gives the company a lot to fudge.  But the closer to the high end of the range this comes in at, the more faith the market will have in the company.

This doesn’t mean the company must perform in Q1 or it’s all over.  There’s more runway than a single quarter.

On the balance sheet, there are a few problems… nothing you wouldn’t expect from a company where the stock prices had been driven down by 90% from its peak back in 2011.

There is long-term debt of $21.7 million.  But there’s cash in the bank, $18.8 million.

 

Investment Risks:

The big risk is a needed revenue rebound, and whether ReachLocal can turn things around.

Revenues have been heading south, down to $382.5 million in 2015 from $474.9 million in 2014.

The company lost $61.5 million in 2015.  Cash flow was negative $20 million.

The company operates in a highly competitive tech segment.  If it doesn’t revitalize its brand and leverage the perceived strengths of its domestic presence, it can lose out to cheaper, online competitors overseas.

 

Potential Return: 

An uptick in revenue, even a modest increase, can send a signal that the worst is over.  This penny stock is clearly a turnaround play, and turnaround is all about revenue revival.

The stock has come off a low of $0.55 in November 2015.  This year, it’s been trading in a $1.50-$2.00 range.

When we see revenue growth, we expect to see the stock move above the $2.00 mark, and with continued growth, can work back into a $10-$15 range, where it traded for 16 months between January 2013 through April 2014.

 

Key Facts:

Company:                                  ReachLocal, Inc.

Ticker:                                         RLOC

Recent Price:                             $1.86

Buy up to Price:                         $2.05

Market Cap:                               $55.61 million

Avg. Daily Volume (3 month):        18,340 shares

 

Chart:

 

Category: TPS Trade Alert