This Cloud Service Business Seems Like a Decent Buy

Anh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

J2 Global (NASDAQ: JCOM) has been on the rise since the middle of 2012, climbing from $25 per share to nearly $43 per share. Trailing twelve months, the business delivered more than a 20.1% return on equity with an impressive operating margin of more than 39.5%. Famous investors like Paul Tudor Jones, Ken Fisher and Steven Cohen also have it in their portfolios. Is the company a good buy now? Let’s find out.

A consistent growing business with recurring revenue

J2 Global, founded in 1995, is a provider of Internet services, including cloud services for businesses, product reviews for consumers and an innovative data-driven platform to help advertisers target the right audiences. It operates in two main business segments, Business Cloud Services and Digital Media. Most of its $187.4 million operating income was generated from the Business Cloud Services segment, while the Digital Media segment contributed only $2.9 million in 2012. Interestingly, the revenue from the Business Cloud Services segment was produced through monthly recurring subscriptions and usage-based fees which were paid in advance by credit card. The company's fixed subscriber revenue accounted for as much as 81.3% of its total revenue in 2012.

In the past four years, j2 Global managed to consistently grow both its top line and bottom line. Revenue increased from $246 million in 2009 to $371 million in 2012 while the net income rose from $67 million, or $1.48 per share, to $122 million or $2.61 per share during the same period. Moreover, the company is considered a cash cow that produces consistent positive cash flow. In 2012, it produced $170 million in operating cash flow and $159 million in free cash flow.

J2 Global currently trades at around $43 per share, with a total market cap of $2 billion. The market values the company at 10.3 times its trailing EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) and 4.9 times its sales. It has the lowest EBITDA multiple among its closest peers, Open Text (NASDAQ: OTEX) and (NYSE: CRM).

A cash cow with recent dividend initiation

Open Text is an information management software company, helping its customers to manage content, increase customer engagement and operate more efficiently. Around 54% of its total revenue, $656.6 million, was generated from its Customer Support segment while the Licensing and Services segments contributed only $293.7 million and $257.2 million respectively. What makes the investment community pay attention to this company is its recently-initiated dividend.

According to CEO Mark Barrenechea, Open Text's cash flow increased 20% to $117 million in the third quarter 2013 as a result of more efficient operation. For the full year of 2013, the company expects to reach the upper end of its adjusted margin target range of 26%-30%. Open Text felt that it already had the cash for business operation, capital expenditure and acquisition and as a result initiated a dividend of $0.30 per share. Open Text currently trades at around $71 per share, with a total market cap of $4.2 billion. The market values the companya bit higher than j2 Global, putting its valuation at nearly 11 times its EBITDA. But its price-to-sales ratio is lower, however, at 3.13 times its trailing sales.

Salesforce - high valuation and high-priced acquisition

Salesforce, a global leader in customer relationship management via the cloud, has quite a diverse customer base. No single customer has represented more than 5% of its total revenue for the past three years. The company generated most of its revenue from subscription fees for its services and from providing additional support to customers.

Recently, the company acquired the cloud-based digital marketing company ExactTarget for around $2.5 billion in cash. The offering price per share was $33.75, 52% higher than the company's pre-offer trading price. After the acquisition announcement, Salesforce’s share price dropped to around $38 per share. The acquisition price seemed high, at 7.4 times its revenue, especially since ExactTarget has not produced any profit for the past three years.

Salesforce expects to generate an additional $120-$125 million in revenue in the remainder of its 2014 fiscal year with the company's full-year revenue estimated at around $4 billion. Because ExactTarget is producing losses, the acquisition was estimated to reduce its full year 2014 non-GAAP earnings-per-share to a range of $0.31-$0.33. Salesforce, currently trading just above $38 per share, is worth $22.5 billion on the market. The market values the company as more expensive than its peers, with a valuation that is more than 300 times its trailing EBITDA and 6.8 times its sales.

My foolish take

J2 Global is not crazily expensive at its current trading price, but it is not crazily cheap either. With its growing top line, bottom line and cash flow, it could be a decent stock to purchase at its current trading price. I also like Open Text due to its dividend initiation, growing cash flow and low price-to-sales ratio. Salesforce, with its high valuation and a recent high-priced acquisition, might not deliver a good market return to shareholders in the near future.

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Anh HOANG has no position in any stocks mentioned. The Motley Fool recommends Open Text and The Motley Fool owns shares of Open Text . Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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