Is Ancestry.com a Story of the Past?

By Nikhil Shamapant - March 30, 2012 | Tickers: AMZN, ACOM, BIDU, GOOG | 0 Comments

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Over the last two years, Ancestry.com (NASDAQ: ACOM) has certainly pulled its weight in investor portfolios. Since April 2010, Ancestry.com is up almost 40%, and at one point in July, Ancestry.com was up 160%. Recently, however, Ancestry.com hasn't done so well, 50% below its 52 week high, and it's time to consider whether it's prudent to add Ancestry.com to a portfolio at these prices.

Adding Growth companies to a portfolio is always difficult due to the price of growth. Baidu (NASDAQ: BIDU), for example, is a huge china growth story that would have been wonderful to add to the portfolio two years ago( you would be up 140+%). Another example would be Amazon.com(NASDAQ: AMZN), which is up almost 50% in the last two years. These companies both trade for P/E's of 49.23 and 146.83 consecutively. And look at how they've been valued in the past!

*YCharts.com

Not only have growth companies performed well at high valuations, but they have maintained those high valuations as they have growth their businesses, dramatically increasing shareholder value in the process. At this point, Ancestry.com is trading at its historically lowest P/E in the last 5 years. Buying Amazon or Baidu at their 5 year low P/E would have resulted in 289% and 1200% gains respectively. Given, Ancestry.com doesn't have the growth power that Baidu and Amazon have, but it's still prime time to check if Ancestry.com is worthy of your portfolio.

Ancestry.com is built off of a subscription based profit model. It is the leading online resource for family history and family geneology information. While the company has been growing revenue at astonishing rates, management has made it clear that revenue growth will not be this high for too long. In the annual report, management says, "we anticipate that our revenue growth rate will generally decrease over time." Of course, this should be the case of any growth company over a LONG time, but it's usually a better sign when a company anticipates higher revenue growth in the near future, before the company hits maturation. In this case, it makes me doubt that Ancestry.com's management has enough vision to continue strong growth for Ancestry.com. 

Of course, with Ancestry.com, growth in the family history and genealogy area will take place by increasing digitized content to maintain its leadership over the industry and by remaining well advertised(right now they are being advertised by a television show, Who Do You Think You Are?, and they believe the show is bringing in a lot of their new subscribers). Ancestry.com is also moving into new markets by investing 10-15 million dollars in 2012 to further their new DNA services. While movement into the DNA services market will dampen earnings next year, I believe this move will open Ancestry.com's business model up to increased growth where Ancestry's current business model was aimed at a relatively narrow subscriber base. Even if the move isn't loved by Wallstreet now, it is the right move to make, as it's Ancestry's best chance at expanding their markets instead of resigning to lower growth rates in the future.

Subscription Model Analysis

In any case, Ancestry.com's subscription model makes it important to analyze these 4 performance attributes: 1) Total Subscribers, 2)Monthly Churn, 3) Subscriber Acquisition Cost, 4) Average Monthly Revenue per Subscriber.

*Source: 2011 10-K Filing

Monthly Churn represents the number of subscribers that cancel in a quarter divided by the sum of beginning subscribers and subscriber additions in the quarter. This is then modified to represent average churn for the year. Generally, the lower the churn, the more loyal the subscriber base and the more confident once can be in a company's ability to sustain revenues. Subscriber Acquisition cost is calculated as marketing expenses divided by gross subscriber additions. The lower the cost, the easier it is to fund subscriber growth, and the easier it would be for Ancestry.com to scale up its business.

The key here is that growth in total subscribers Year over Year was 22% and 30% for 2011-2010 and 2010-2009 respectively. Interestingly enough, revenue growth year over year was 165% and 33% respectively as well. While it's clear that subscriber growth is lowering as subscriber acquisition costs increase, revenue growth tends to outdo subscriber growth in Ancestry.com's annual statements. If we expect a conservative 15% subscriber growth, Ancestry's revenue growth alone should translate to the bottom line and merit a P/E higher than the 17 it currently sits has.

There are a lot of reasons to think Ancestry.com is a prize at these prices. Apart from growth potential in DNA services, Ancestry's ability to simply acquire it's competitors, and speculation that Google(NASDAQ: GOOG) may consider buying out Ancestry.com at these prices, management is bullish enough to have initiated a share repurchase plan, signalling belief in a turnaround in the future.

However, I am ultimately unwilling to make Ancestry.com a part of my portfolio. What I am willing to buy for my portfolio are companies that have strong competitive advantages, strong earnings growth, and a market untouched by the businesses potential. Ancestry.com just doesn't have the traits I'm looking for. Ancestry's competition, for example, stems from not only other businesses, but free services such as FamilySearch.org, making it unable to secure a competitive advantage in its own field. DNA geneology isn't a market without competition either. A simple google search reveals plenty of services out there waiting to compete for Ancestry.com's customers. All that and the management's overall pessimistic attitude make me nervous about owning Ancestry.com, even at nice cheap prices like today's.

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