April 19, 2013 Technology Cornerstone OnDemand Ticker: CSOD Current Price: $33.19 Recommendation: Buy Implied Price: $45.81 Investment Thesis Key Statistics 52 Week Price Range $18.02-35.69 50-Day Moving Average $33.48 Estimated Beta 1.58 Dividend Yield N/A Market Capitalization 1,771,805,136 3-Year Revenue CAGR 59.0% Trading Statistics Diluted Shares Outstanding 53,383,704 Average Volume (3-Month) 301,730 Institutional Ownership 78.2% Cornerstone OnDemand recently solidified its continued momentum in the cloud based talent management space with 2012 revenue up 61%from 2011 and 2012 bookings up 58% from 2011. The company continues to prove its ability to sign new contracts with a five year bookings CAGR of 59%. Several notable trends are working in Cornerstone OnDemand s favor: 1) increasing pressure on businesses to cut costs with technological advances, 2) increased adoption of cloud-hosted, SaaS based software as a cost saving deployment method, and 3) with increasing competition and globalization, firms are facing growing pressure to retain, attract, and develop talented individuals. Cornerstone OnDemand has established an effective growth strategy by aggressively increasing sales head counts while leveraging key reseller agreements and alliances. Notable resellers include Appirio, ADP, and T2 Optimise PTY. Notable alliances include ADP, salesforce.com, and Workday. One-Year Stock Chart Insider Ownership 19.9% EV/EBIT (LTM) Margins and Ratios -53.4x Gross Margin (LTM) 71.9% EBITDA Margin (LTM) -26.9% Net Margin (LTM) -26.6% Debt to Enterprise Value 0.0 Covering Analysts: Christian Meunier, Ian Strgar $40.00 $35.00 $30.00 $25.00 $20.00 $15.00 $10.00 $5.00 $0.00 Apr-12 Jun-12 Aug-12 Oct-12 Dec-12 Feb-13 Volume Adjusted Close 50-Day Avg 200-Day Avg 10000000 9000000 8000000 7000000 6000000 5000000 4000000 3000000 2000000 1000000 0 meunier@uoregon.edu, istrgar@uoregon.edu 1 University of Oregon Investment Group
Business Overview Cornerstone OnDemand, a leading global provider of talent management solutions, was founded in 1999 and began principal operations in November of that year. The company is headquartered in Santa Monica, CA and offers a comprehensive application suite to service businesses talent management needs: workforce planning, talent acquisition, performance assessment, goals management, career development, succession planning, compensation management, and more. Cornerstone OnDemand s talent management platform is delivered purely through SaaS based delivery. The company s business segments are as follows: Talent Management Suite Clients sign multi-year (typically 1-3) contracts to subscribe to the Cornerstone OnDemand talent management suite, which are priced based off the number of employees at the client organization. These subscription fees are paid either monthly, annually, or in three year installments. Cornerstone OnDemand offers four integrated cloud applications within the talent management suite: Recruiting Cloud: allows customer organizations to manage all the processes within the recruiting cycle. Recruiting Cloud includes managing job postings and requisitions, identification of strong employee candidates, assessment of skills and competencies, and new employee onboarding. Individual feature applications include: o Recruitment Management: gives customers the ability to assess and compile potential candidates. o Sourcing: helps customers uncover the best potential employees by linking candidates to current employees (for personal feedback) through social networks, job boards, and talent communities. o Screening & Assessment: gives customers the ability to easily locate external talent by separating potential candidates with certification tests, skills tests, and quantitative ranking systems. o Talent Pipeline: allows customer organizations to effectively build strong candidate pipelines for future openings by creating blended talent pools with internal and external candidates while increasing communication and engagement in online talent pools. Learning Cloud: allows customer organizations to effectively train new employees or employees in new positions with instructor led training, e-learning sessions, and virtual classroom sessions. Benefits to Cornerstone OnDemand s Learning Cloud include management of local and global compliance programs, access to tens of thousands of training programs, automation of various onboarding processes, and cost metric reporting. Individual feature applications include: o Learning Management: Cornerstone OnDemand s Learning Content Management System (LCMS) gives customers the ability to create detailed, media-rich courses and learning UOIG 2
content without the need for expensive prior programming knowledge. o Instructor Led Training: automates event planning, provider management, virtual classroom integration, and registration in order to educate new employees in a personal, face-to-face setting. o Social Collaboration: gives customers a thorough employee collaboration platform through business social networking. This allows employees to take an active role in company development by contributing to online groups and communities within the business. o Compliance & Certification Management: manages and automates the administrative processes in ensuring company compliance with its latest regulatory requirements. Performance Cloud: allows customer organizations to measure individual, departmental, and organizational performance levels in order to align individual goals with organizational strategies. Individual feature applications include: o Performance Management: allows customer organizations to easily align company-wide initiatives with individual goals by managing individual goals, as well as providing social reviews and performance appraisals. o Skills & Competency Management: Employs custom build competency models to easily identify skill gaps within customer organizations in order to plan necessary training. o Succession Management: allows for identification and development of a customer s internal talent pool in order to map out succession scenarios for any given position within the organization. o Compensation Management: manages all aspects of employee compensation levels including salary, potential increases, market based adjustments, and benefits. Extended Enterprise Cloud: allows customer organizations to continue to extend the benefits of talent management past their internal workforces onto their extended partners, resellers, suppliers, distributors, and customers to ensure high levels of competency all the way through a customer s supply chain. Individual feature applications include: o Learning Management: gives customers the ability to create detailed, media-rich courses and learning content intended for extended network employees. o Social Collaboration: through the use of social networks, blogs, and online communities, social collaboration offers extended network access to areas of relevance to customer organizations. o ecommerce: allows customer organizations to charge their extended networks for their talent management offerings. UOIG 3
o Certification Management: gives customers the ability to create certification programs to ensure extended network competency and increase revenues of channel partners. 100.0% 95.0% 90.0% 85.0% 80.0% 75.0% 70.0% 65.0% 60.0% 55.0% 50.0% Dollar Retention Rate 95.8% 94.9% 94.3% 2010 2011 2012 Consulting Services Cornerstone OnDemand supplements its software offerings with supportive consulting services. Consulting services include all implementation of the Cornerstone OnDemand solution: installation, configuration, systems integration, and training. These services are typically delivered within the first fiscal quarter of signing a new contract. In addition, Cornerstone OnDemand s consulting services include maintenance and technical support inquiries. Strategic Positioning Sales & Marketing Since the company s inception in 1999, Cornerstone OnDemand has invested heavily in Sales & Marketing in order to grow the Cornerstone OnDemand brand and generate strong revenue growth. Cornerstone OnDemand markets and sells its products through a direct sales force as well as indirectly through a domestic and international network of resellers. The company s platform is compatible with many different industries, but contains specific offerings targeted towards certain verticals as needed. Cornerstone OnDemand employs target market specific sales teams based on target size and region. Research & Development As a provider of SaaS based talent management software solutions, Cornerstone OnDemand s success is heavily reliant on its ability to stay ahead of technological advances and keep its software offerings current and up to date. While the company will undoubtedly continue to invest in research and development, the scalability of the SaaS model will allow for reduced research and development costs as a percentage of revenue. The company s development strategy in combination with its SaaS based delivery model allow for frequent (quarterly or more) releases of new and updated software features. Business Growth Strategies 12000 10000 8000 Clients & Users 7,512 10,558 Cornerstone OnDemand markets and sells its SaaS based talent management platform through a direct sales force and through key reseller agreements. While the company s direct sales force is strong in North America, key reselling agreements allow the company to expand its presence internationally. Recently, the company has noted the public sector as a domestic market with significant growth potential. 6000 4000 2000 0 4,928 481 805 1237 2010 2011 2012 Number of Clients Number of Users Organic Growth Client Retention Cornerstone OnDemand has demonstrated a strong ability to retain current clients as the company consistently sees above industry average customer satisfaction rates with its overall offering. Since 2002, the company has averaged a 95% annual dollar retention rate and has stated an objective to increase or maintain such high rates. UOIG 4
Strategic Resellers In order to grow the company s presence internationally, Cornerstone OnDemand has established a strong partnering strategy. It has signed reseller agreements with international players such as Affiliated Computer Services, Appirio, and ADP. In addition, it has signed with regional distributors such as BSI Tecnologia in Brazil, CDP Group in China, Comms Learning Limited in the United Kingdom, Infosys Limited in India, T2 Optimise PTY in Asia Pacific, and many more. The company has stated it as a goal to continue to expand and strengthen its strategic reseller agreements. This leaves much room to grow because total foreign revenue in 2012 was a modest 30.6% of total revenues. With strong client retention rates and effective strategic reseller agreements, Cornerstone OnDemand s growth has primarily been organic. Acquisitions On April 5 th, 2012, Cornerstone OnDemand completed an acquisition of Sonar Limited, a SaaS based talent management provider from New Zealand. Because Sonar Limited had a focus on the SMB segments, this acquisition allowed Cornerstone OnDemand to expand its presence in smaller business markets, rebranding the solution as Cornerstone Small Business solution. Industry Overview Talent management is a subsector of the overall human capital management (HCM) industry. While HCM offerings are concerned with every aspect pertaining to managing a company s work force, talent management is specifically concerned with the gathering, training, and career planning of a firm s talent. With increased globalization and competition between firms, HR professionals are facing rising pressure to evaluate, develop, and retain top talent. Until recently, HR employees were forced to purchase and deal with multiple aspects of talent management separately if they wanted adequate software to aid in the process. As a result, integrated talent management suites have emerged as a solution to HR employee s frustrations with the high cost and effort involved in the talent management process. Due to the cost and effort savings resulting from purchasing multiple applications simultaneously from a SaaS vendor, full suite vendors with a SaaS offering are leading the talent management market. The primary offerings in talent management can be further broken down into recruiting and staffing, learning and development, performance management, and career planning: Recruiting and Staffing: involves all the processes pertaining to the hiring process. Firms will use these applications to automate job listings, filter through potential applicants, source potential candidates with internal workers, and build a pipeline of solid applicants for future openings. Learning and Development: involves all the processes pertaining to thorough employee onboarding through face to face training, online training, and social collaboration. Such onboarding applications aim to accelerate time to productivity. UOIG 5
Performance Management: involves all the processes pertaining to management of current employee involvement and alignment of individual goals with corporate initiatives. Such applications include compensation management, skill assessments, and quantifiable performance reviews. Career Planning: involves all the processes pertaining to the collection of individual goals, succession planning, and individual career mapping. Businesses employ such software to ensure employee satisfaction with their current jobs and where they are headed. Competition Cornerstone OnDemand competes in the market for talent management, a market that is highly competitive, rapidly evolving, and very fragmented. While there is much competition in specific niche offerings, Cornerstone OnDemand has stated that it primarily competes as a comprehensive, fully integrated talent management suite. Most of the company s competitors have multiple versions of hosted or on-premise solutions. Leadership Position Recognition Cornerstone OnDemand has been recognized as a market leader in multiple third party research reports from Gartner, Forrester, and IDC. Gartner defines talent management suites as integrated set(s) of applications, including workforce planning, talent acquisition, performance appraisal/assessment, goals management, career development, succession management, learning management, and compensation management. Each business is assessed on its ability to execute (current offering assessment) and completeness of vision (plan for future assessment) and ranked accordingly. In Gartner s Magic Quadrant for Talent Management Suites, the report notes how Cornerstone OnDemand s performance management, succession management and learning functionalities are best in class. Competitive Landscape Due to the fact that Cornerstone OnDemand s target market is enterprise businesses, the company competes primarily with two types of talent management providers: diversified software providers, and SaaS based talent management providers. Diversified Software Providers IBM: In December 2012, IBM entered the talent management space with its acquisition of Kenexa. Prior to being acquired by IBM, Kenexa was a publically traded talent management provider with a focus on recruitment. Kenexa s platform is best suited for enterprise businesses and is being integrated into IBM s Smarter Workforce platform. Oracle: Oracle entered the market for talent management in December 2004 with its hostile takeover of PeopleSoft and extended its talent management offerings with another acquisition of Taleo in February 2012. The software acquired in such buyouts are bundled into three primary offerings: Oracle E-Business Suite, Oracle PeopleSoft HCM, and Oracle Talent Cloud. Oracle offers both on-premise and SaaS based talent management solutions. SAP: SAP offers on-premise HCM capabilities in its broader ERP SAP Business Suite and recently expanded its talent management offerings to support the cloud with its acquisition of SuccessFactors in February UOIG 6
2012. Prior to the acquisition, SuccessFactors was publically held and targeted enterprise businesses. 6.0 5.0 4.0 3.0 2.0 1.0 0.0 Market Size ($B) 5.4 4.7 4.0 3.3 2011 2012 2013 2014 SaaS Based Talent Management Providers Halogen Software: Halogen Software is a privately held talent management provider based out of Ottawa, Canada. With a strong presence in North America, the U.K., and Australia, Halogen primarily offers its solutions through SaaS based deployment (approximately 80%). Halogen targets mid-size to enterprise businesses. Lumesse: Lumesse was founded in 1996 and is based out of the U.K. Originally, the company had a strong focus on e-recruitment but has recently expanded its offerings through strategic acquisitions. Lumesse is a leading vendor in the European talent management markets and has a growing presence in Asia. Peoplefluent: Peoplefluent was founded in 1997 and is headquartered in Raleigh, North Carolina. The company is privately held by the private equity firm Bedford Funding. Originally, the company had a strong focus in recruiting and compensation management, but has recently taken steps to add learning management and social HCM functionalities. More than 80% of the firm s revenue comes from North America. Saba Software: Saba Software is based out of Redwood Shores, CA and is one of the few publically traded SaaS talent management providers. The company has more than 2,100 customers worldwide and has reported annual revenues in excess of $130 million. Saba has a strong focus on learning, performance, and succession management. Recently, the company s stock price has taken a hit due to an SEC inquiry. SilkRoad: SilkRoad is a privately held talent management vendor based out of Chicago, Illinois. The company targets mid-market customers and has expanded its offerings through acquisitions. SilkRoad has approximately 2,000 customers and over 400 employees. SumTotal Systems: SumTotal Systems was founded in 1985 and is based out of Gainesville, FL. The company has operations in North America, Europe, and the Asia-Pacific regions and has grown primarily through acquisitions of companies such as Softscape, GeoLearning, and Accero. Customers cite the company for having very strong offerings in learning, performance, and succession management. Market Opportunity Market Size Cornerstone OnDemand participates in the market for talent management solutions, one that, in our opinion, is very underpenetrated. While businesses have been forced to manage their internal talent for many years prior to the recognition of talent management as a defined market, talent management has emerged in recent decades and is seeing increased acceptance as a necessary function. According to research compiled by Deloitte, the market for talent management grew 22% to approximately $4 billion in 2012. Market Growth According to Forrester Research, the market for talent management is projected to grow at a CAGR of 16.5% through 2014. Growth in talent management is the highest growing sector within the overall HCM market. UOIG 7
Management and Employee Relations Adam Miller Founder & CEO Adam Miller founded Cornerstone OnDemand in 1999 and has served as President and Chief Executive Officer ever since. He is a member of the board of directors and heavily involved in sales, strategy, and daily operations at Cornerstone. Prior to the founding of Cornerstone, Miller worked as an investment banker for Schroders Plc. He attended University of Pennsylvania where he received a B.S. in business. He went on to receive his M.B.A. and his J.D. from UCLA. Miller has earned his C.P.A. and his Series 7 certifications. His salary for 2012 was $411,233 with a total compensation of around $964,000 Perry Wallack Chief Financial Officer Perry A. Wallack co-founded the company in 1999 and began his career at Cornerstone OnDemand as the Vice President of Finance. Prior to working at Cornerstone, Wallack worked from 1992-1998 as a business manager for Grant, Tani, Barnish, and Almant, Inc, a business management firm. He received a B.A. in Economics from University of Michigan and earned his C.P.A. in 1996. His total estimated compensation for 2012 was $552,000 Mark Goldin Chief Technology Officer Mark Goldin has been serving as Cornerstone OnDemand s Chief Technology Officer since June 2010. Prior to joining Cornerstone, Golding has held several jobs for multiple companies including Chief Technology officer at DestinationRX, INC., Chief Operations and Technology Officer at Green Dot Corporation, and Senior Vice President at Thomson Elite. Vincent Belliveau Senior Vice President & Manager of EMEA Vincent Belliveau has been serving as the Manager of Europe, Middle East and Africa (EMEA) since June 2007. Prior to working at Cornerstone OnDemand, Belliveau worked as the North East Europe Director of Master Data Management for Business Machines Corporation, a technology services company. Prior to that position, Belliveau was a Business Analyst at McKinsey and Company. He earned his Commerce Baccalaureate from McGill University, where he majored in Accounting and Finance. 2012 Guidance vs. Actuals Guidance Actual Revenue $117-118 M $117.9 M Net Loss $15.5-17.5 M $16 M Management Guidance Cornerstone OnDemand has a history of giving conservative guidance, allowing the company to consistently land within the guided range. For example, Cornerstone OnDemand guided a 2012 revenue range of $117-118 million and had an actual result of $117.9. In addition, the company guided a 2012 net loss range of $15.5-17.5 million and had an actual result of approximately $16 million. The company only guides in non-gaap figures and updates its annual guidance throughout the year. Portfolio Strategy The UOIG currently holds no shares of Cornerstone OnDemand in any portfolio and has no history of doing so. We recommend a buy for all three portfolios, as we see long term value as talent management gains increasing acceptance as a necessary business function. We also see short term value in the company s strong ability to manage robust growth, market leadership position, and ability to continue signing new contracts. UOIG 8
Recent News Cornerstone OnDemand Expands Presence in Public Sector to Drive Continued Momentum Business Wire March 28th, 2013 Cornerstone OnDemand cites its growth in the public sector market and sees opportunity to capture more market share as a result of the public sector s growing need for talent management strategies. Cornerstone OnDemand serves organizations in the public sector such as contractors of the government, state and local government, as well as K-12 and higher education. This opportunity is driven by government-led initiatives such as Cloud First and FedRAMP, which aim to create cost reductions. Cornerstone OnDemand Revolutionizes Sales Enablement with the Launch of Cornerstone for Salesforce Business Wire February 12 th, 2013 Cornerstone OnDemand announced the availability and launch of Cornerstone for Salesforce, an integrated offering with salesforce.com CRM software that embeds learning management directly into the Salesforce Platform. Leading companies such as LinkedIn, Box, and Medtronic employ Cornerstone for Salesforce in order to tailor training programs for their sales and service organizations to provide seamless access to sales enablement and just-in-time training, all from within Salesforce. 180,000 160,000 140,000 120,000 100,000 80,000 60,000 40,000 20,000 - Bookings ($M) 154,286 97,584 60,919 34,467 24,857 15,019 2007 2008 2009 2010 2011 2012 Cornerstone OnDemand Ranked Among Fastest Growing Companies in North America by Deloitte s 2012 Technology Fast 500 Business Wire November 15 th, 2012 Cornerstone OnDemand was listed among Deloitte s 2012 Technology Fast 500, a list of the fastest growing technology companies in North America. The list includes companies from a variety of industries including technology, media, telecommunications, life sciences, and clean technology companies. The companies on this list range from 128% to 279,684% revenue growth from the years 2007 to 2011. During this time period, the company was cited for its 588% revenue growth. Catalysts Upside Several notable trends are working in Cornerstone OnDemand s favor: 1) increasing pressure on businesses to cut costs with technological advances, 2) increased adoption of cloud-hosted, SaaS based software as a cost saving deployment method, and 3) with increasing competition and globalization, firms are facing growing pressure to retain, attract, and develop talented individuals. Cornerstone OnDemand has established an effective growth strategy by aggressively increasing sales head counts while leveraging key reseller agreements and alliances. Notable resellers include Appirio, ADP, and T2 Optimise PTY. Notable alliances include ADP, salesforce.com, and Workday. Cornerstone OnDemand participates in the market for talent management, one that is seeing high, double-digit growth currently and for coming years. Cornerstone OnDemand continues to prove its ability to sign new contracts with a five year bookings CAGR of 59%. UOIG 9
Other notable positives: o The competency of Cornerstone OnDemand s offering is shown in the enterprise customers it attracts: BMW AG, ADP, Barclays Bank PLC, Anheuser-Busch, Liberty Mutual Insurance, etc. o Cornerstone OnDemand s SaaS, subscription based business model is recession proof: its solution benefits businesses in search of cost cutting initiatives. o Cornerstone OnDemand has an exceptional management team with diversified experiences, allowing the company to develop the only 100% organically built talent management solution. Downside Cornerstone OnDemand s customers report that the vendor is currently behind other talent management suite in mobile capability offerings. Competition: the talent management market is highly competitive, rapidly evolving, and fragmented. The company s success will depend on its ability to advance its offerings in accordance with demand. Cornerstone OnDemand is growing at significant rates. The company s success will depend on its ability to manage this growth. Changes to the regulatory environment could increase the costs involved in offering talent management solutions or negatively impact usability. Comparable Analysis When screening for comparable companies, we searched for companies with similar growth, business models, risks, size, and products, all in conjunction with each other. Finding companies with similar growth was prioritized above others but doing so was difficult due to Cornerstone OnDemand s significantly high revenue growth. We chose to weight both EV/Revenue and EV/Gross Profit at 50% to encompass the company s ability to compete on its ability to generate top line revenue and maintain a healthy gross margin. Cornerstone OnDemand is at a stage of high growth and negative cash flow, making revenue growth the most important factor for the next couple of years. We decided to weight EV/Gross Profit as well because gross margins are an important indicator of cost management as the company becomes increasingly established. Workday (30%) Workday, Inc. provides enterprise cloud-based applications for enterprises in the United States and internationally. It offers applications for customers to manage critical business functions that enable them to optimize their financial and human capital resources. The company provides Workday Human Capital Management (HCM), a human resources and talent management application to help organize, staff, compensate, and develop a distributed workforce; Workday Payroll, a payroll application that allows customers to group employees, manage calculation rules, and pay employees; and Workday Financial Management, an unified application to manage financial processes for organizations. Workday, Inc. was founded in 2005 and is headquartered in Pleasanton, California. -Yahoo Finance Workday received the highest weighting of thirty percent due to multiple factors. Workday s growth rate is the most similar to Cornerstone OnDemand. UOIG 10
They offer similar products and have a partnership agreement with Cornerstone, leading to both companies being susceptible to the same risks, which is evident in their betas. Workday is unprofitable and has a similar capital structure as Cornerstone OnDemand. Both companies have the same revenue model and offer their products through a SaaS deployment method. Ultimate Software Group (30%) The Ultimate Software Group, Inc. designs, develops, and markets cloud-based human capital management software-as-a-service solutions to businesses across various industries in the United States and Canada. The company offers UltiPro as two solution suits, including UltiPro Enterprise for companies with more than 1,000 employees, and UltiPro Workplace for companies with 1,000 or fewer employees. Its UltiPro software solution offers cloud-based functionality to manage the employment life cycle from recruitment to retirement. The company was founded in 1990 and is headquartered in Weston, Florida. -Yahoo Finance The Ultimate Software Group also received a thirty percent weighting. The company offers products in the human capital management industry, which is exposed to the same risks as companies in the talent management industry. The Ultimate Software Group and Cornerstone OnDemand have similar capital structures and betas. Both companies offer their products through SaaS deployment lending to similar business models. Out of all the comparable companies, The Ultimate Software Group is the most similar in size. Salesforce.com (15%) Salesforce.com provides enterprise cloud computing solutions to various businesses and industries worldwide. Its service offerings include Sales Cloud, which enables companies to grow their sales pipelines, close deals, improve sales productivity, and gain business insights. Salesforce.com sells and markets its services on subscription basis primarily through its direct sales force comprising telephone sales personnel, as well as through global consulting firms, systems integrators, and regional partners. The company was founded in 1999 and is headquartered in San Francisco, California. -Yahoo Finance Salesforce.com is weighed at fifteen percent. While Salesforce.com has been an established business for longer and is larger than Cornerstone OnDemand, both companies offer similar products, have comparable revenue growth and business models. It should be noted that Cornerstone OnDemand s software is integrated in the Salesforce.com product, meaning the companies share risks. Netsuite (15%) NetSuite Inc. provides cloud-based financials/enterprise resource planning (ERP) software suites in the United States and internationally. It offers NetSuite, a single platform for financials/erp, customer relationship management (CRM), professional services automation (PSA), and e-commerce capabilities that automate processes across departments. The company sells its products directly through professionals to medium-sized businesses and divisions of companies; and indirectly through its relationships with channel partners. It serves companies operating in various industries, including distribution and wholesale; professional, consulting, and other services; computer software; e-commerce and retail; manufacturing; computer and IT services; telecommunications services; financial services; healthcare services; and education. The company was founded in 1998 and is headquartered in San Mateo, California. UOIG 11
-Yahoo Finance Netsuite is weighted at fifteen percent mainly due to their similar growth over the next two years. They have similar betas and are both unprofitable companies. They both offer their products through SaaS based deployment, and have similar business models. Their product offering, however, is slightly different from Cornerstone OnDemand. Splunk (10%) Splunk, Inc. provides software solutions that provide real-time operational intelligence. It offers Splunk, an engine that collects, indexes, and harnesses machine data generated by physical, virtual or in the cloud IT infrastructure; and Splunk Storm, a cloud version of Splunk to analyze cloud based applications. The company also provides services, such as implementation, system health optimization and best practices review, deployment workshop, upgrade, and augmentation for administration and development. In addition, its solutions include operational intelligence, application management, IT operations management, security and compliance, business analytics, cloud, and Microsoft. The company serves cloud and online services, education, energy and utilities, financial services and insurance, government, healthcare, manufacturing, media, retail, technology, telecommunications, and travel and leisure industries. Splunk, Inc. was founded in 2005 and is based in San Francisco, California. -Yahoo Finance Splunk received only a ten percent weighting mainly because its business model is slightly different from Cornerstone OnDemand: instead of subscription contractual revenue, they sell their products through licenses. However, they are also unprofitable, have a similar beta, and are seeing growth rates that are close to Cornerstone OnDemand s. Discounted Cash Flow Analysis Revenue Model Cornerstone OnDemand did not break up its revenue model into different line items. The company recognizes revenue from subscriptions to its services, consulting services, and E-learning content; however management refuses to indicate what portion of revenue comes from each service. In our talks with the company s investor relations, we were informed that roughly 80% of the company s revenue is derived from subscription fees while the remaining 20% is derived from supportive professional services. Thus, we were forced to project total revenue. We recognize that the current growth rate of Cornerstone OnDemand is not sustainable, so we looked at technology companies that have experienced this type of growth in the past, giving us an idea of future revenue growth. Industry growth was also a factor when projected annual revenue growth in the upcoming years. Cost of Goods Sold The costs of goods sold is primarily the costs related to hosting the solution, which includes network infrastructure, IT support, training services, overhead, etc. We expect Cornerstone OnDemand s gross margins to increase to around 80%, which is common for cloud based companies. Typical SaaS companies see their cost of goods sold lower over time as a percentage of revenue. UOIG 12
Adjusted Beta University of Oregon Investment Group Selling & Marketing Selling and marketing expenses are primarily personal expenses that relate to the sales staff, including bonuses, benefits, costs of promotional events, online marketing, and salaries. As the business is growing at a rapid rate we can expect this expense to remain a significant percentage of revenue. We looked at more established companies who have gone through similar growth to Cornerstone OnDemand to estimate what marketing expenses will be as a percentage of revenue in the future. Terminal Growth Rate 38 2.0% 2.5% 3.0% 3.5% 4.0% 1.38 47.80 47.80 47.80 47.80 47.80 1.48 42.37 42.37 42.37 42.37 42.37 1.58 37.81 37.81 37.81 37.81 37.81 1.68 33.94 33.94 33.94 33.94 33.94 1.78 30.63 30.63 30.63 30.63 30.63 Cornerstone OnDemand Beta Calculations Beta Standard Deviation Weighting 1 Year Weekly 0.87 0.33 10% 2 Year Daily 1.12 0.10 20% 2 Year Monthly 1.82 0.33 70% Weighted Average Beta 1.58 Research and Development Research and development consists of the expenses allocated to the research and development staff including benefits, salaries, cost of third-party service providers, and allocated overhead. Research and development will remain more or less constant as Cornerstone OnDemand grows due to the need of improving current products and innovating new products. General and Administrative General and administrative expenses are primarily related to administrative, legal, and human resource staffs. These include salaries, benefits, bonuses, professional fees, and overhead. We expect general and administrative expenses Terminal Growth Rate to decrease over time as a percentage of revenue after looking at the current expense of more established companies. Depreciation and Amortization Cornerstone OnDemand did not break out a depreciation and amortization expense in their income statement. We had to calculate the amount of depreciation that was included in each of the operating expenses, subtract the amount from each individual line item, and then include the total amount in a new depreciation and amortization expense. Due to the scalability benefits of Cornerstone OnDemand being a SaaS business, depreciation will be low as a percent of revenue into perpetuity. Tax Rate The tax rate for Cornerstone OnDemand is difficult to calculate because it is nearing profitability. Management does not give projections on the tax rate so we looked at similar companies who have become profitable. After looking at comparable companies we decided that we will gradually increase our tax rate to reach thirty percent at perpetuity. Beta We ran multiple regressions to estimate Cornerstone OnDemand s beta: a 1 year weekly, a 2 year daily, and a 2 year monthly. All were regressed against the S&P 500. We chose a 70% weight on the 2 year monthly because we felt that it best encompassed the risk of the company compared to the overall market. We believe that the weighted average beta of 1.58 represents a conservative estimate of the company s risk. WACC Cornerstone OnDemand s percent equity is nearly 100%. Thus, the cost of equity played an overarching role in determining the weighted average cost of capital. With a high, conservative beta, we obtained a WACC of 10.94%. We believe that such a high WACC represents a conservative estimate of the company s discount rate and adds credibility to our DCF. UOIG 13
Recommendation Multiple Implied Price Weight Comparable Analysis $ 52.09 60% Discounted Cash Flow $ 36.38 40% Price Target $45.81 Current Price $33.19 Undervalued 38.01% In computing our final price target, we chose a 60% and 40% weightings on our comparables and DCF, respectively. We chose a slightly higher weighting on the comparables because valuing a cash flow negative company using a DCF requires many more projections and assumptions than the comparables. In conclusion, we recommend a buy for all three portfolios for Cornerstone OnDemand based on qualitative factors and a final undervaluation of 38.01%, resulting in a final price target of $45.81. We believe that Cornerstone OnDemand will continue to generate strong revenue growth which will lead to cash flow positivity and GAAP profitability in 2016. The company is a recognized leader in the talent management space and will continue to dominate due to its strong leadership team and its well reviewed, deeply functional talent management platform. UOIG 14
Appendix 1 Comparables Analysis Forward Comparable Analysis: 2013 CSOD WDAY ULTI CRM N SPLK Cornerstone Ultimate ($ in thousands) OnDemand Workday Software Group Salesforce.com Netsuite Splunk Stock Characteristics Max Min Median Weight Avg. 30% 30% 15% 15% 10% Current Price $170.39 $33.19 $69.63 $88.96 $33.19 $60.00 $97.65 $170.39 $79.25 $42.14 Beta 1.60 $1.36 1.56 1.49 1.58 1.52 1.36 1.53 1.58 1.60 Size Short-Term Debt 12,008 0 458 4,493 916 12,008 2,968 0 0 0 Long-Term Debt 12,972 0 2,153 5,440 1,836 12,972 2,469 0 5,386 0 Cash and Cash Equivalent 790,339 68,040 229,592 424,812 76,442 790,339 68,040 747,245 185,859 273,324 Non-Controlling Interest 0 0 0 0 0 0 0 0 0 0 Preferred Stock 0 0 0 0 0 0 0 0 0 0 Diluted Basic Shares 185,342 29,003 91,898 109,821 53,384 185,342 29,003 155,957 74,899 108,896 Market Capitalization 26,573,509 1,771,805 5,262,321 9,521,074 1,771,805 11,120,501 2,832,153 26,573,509 5,935,756 4,588,885 Enterprise Value 25,826,264 1,698,115 5,035,422 9,106,196 1,698,115 10,355,142 2,769,550 25,826,264 5,755,283 4,315,561 Growth Expectations % Revenue Growth 2013E 58% 23% 33% 36% 55% 58% 23% 27% 30% 36% % Revenue Growth 2014E 51% 23% 30% 33% 47% 51% 23% 24% 27% 32% % EBITDA Growth 2013E 94% -48% 9% 7% 0% -48% 31% 18% 0% 94% % EBITDA Growth 2014E 230% 6% 24% 40% 13% 6% 22% 27% 28% 230% % EPS Growth 2013E 72% -3% 29% 34% -3% 39% 37% 21% 3% 72% % EPS Growth 2014E 61% 0% 17% 25% 6% 6% 33% 28% 61% 0% Profitability Margins Gross Margin 90% 59% 73% 68% 74% 61% 59% 81% 72% 90% EBIT Margin 17% -30% 3% (1%) (18%) (30%) 17% 12% 6% 0% EBITDA Margin 20% -25% 6% 3% (14%) (25%) 20% 18% 9% 2% Net Margin 6% -33% (3%) (9%) (18%) (33%) 6% 1% (3%) (3%) Credit Metrics Interest Expense $1,363 $0 $250 $544 $600 $1,363 $400 $0 $100 $0 Debt/EV 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Leverage Ratio 0.1 (0.2) 0.0 (0.0) (0.1) (0.2) 0.1 0.0 0.1 0.0 Interest Coverage Ratio 376.0 (80.0) 83.1 94.6 (41.1) (80.0) 207.3 NA 376.0 NA Operating Results Revenue $3,869,000 $182,767 $405,500 $920,150 $182,767 $432,200 $409,400 $3,869,000 $401,600 $270,800 Gross Profit $3,128,000 $134,334 $252,600 $687,665 $134,334 $262,000 $240,600 $3,128,000 $289,100 $243,200 EBIT $476,000 ($129,300) $11,900 $57,000 ($32,898) ($129,300) $69,500 $476,000 $23,200 $600 EBITDA $679,000 ($109,000) $21,700 $100,240 ($24,674) ($109,000) $82,900 $679,000 $37,600 $5,800 Net Income $44,000 ($144,500) ($9,600) ($31,300) ($32,240) ($144,500) $26,400 $44,000 ($11,000) ($8,200) Capital Expenditures $220,000 $5,057 $18,600 $55,665 $5,057 $41,200 $23,100 $220,000 $14,100 $12,600 Multiples EV/Revenue 24.0x 6.7x 11.8x 14.0x 9.3x 24.0x 6.8x 6.7x 14.3x 15.9x EV/Gross Profit 39.5x 8.3x 15.2x 21.3x 12.6x 39.5x 11.5x 8.3x 19.9x 17.7x Multiple Implied Price Weight EV/Revenue $ 49.18 50% EV/Gross Profit $ 55.00 50% Price Target $52.09 Current Price $33.19 Undervalued 56.95% UOIG 15
Appendix 2 Discounted Cash Flows Analysis Discounted Cash Flow Analysis ($ in thousands) 2009A 2010A 2011A 2012A 2013E 2014E 2015E 2016E 2017E 2018E 2019E 2020E 2021E 2022E 2023E 2024E Total Revenue $ 29,322 $ 43,731 $ 73,022 $ 117,914 $ 182,767 $ 268,667 $ 381,507 $ 518,850 $ 695,259 $ 903,836 $ 1,147,872 $ 1,423,362 $ 1,679,567 $ 1,914,706 $ 2,106,176 $ 2,274,671 % YoY Growth 49% 49% 67% 61% 55% 47% 42% 36% 34% 30% 27% 24% 18% 14% 10% 8% Cost of Goods Sold 8,354 13,615 20,429 33,128 48,433 69,853 97,284 129,712 176,596 216,921 275,489 327,373 386,300 411,662 421,235 443,561 % Revenue 28% 31% 28% 28% 27% 26% 26% 25% 25% 24% 24% 23% 23% 22% 20% 20% Gross Profit 20,968 30,116 52,593 84,786 134,334 198,814 284,223 389,137 518,663 686,916 872,383 1,095,988 1,293,266 1,503,044 1,684,941 1,831,110 Gross Margin 72% 69% 72% 72% 74% 74% 75% 75% 75% 76% 76% 77% 77% 79% 80% 81% Selling & Marketing 18,186 26,823 43,932 70,453 105,091 146,424 194,569 243,859 315,647 397,688 498,750 604,217 680,224 756,309 810,878 853,001 % Revenue 62% 61% 60% 60% 58% 55% 51% 47% 45% 44% 43% 42% 41% 40% 39% 38% Research & Development 2,688 5,341 9,741 14,257 19,191 26,867 38,151 51,885 69,526 93,999 119,953 142,336 159,559 181,897 200,087 216,094 % Revenue 9% 12% 13% 12% 11% 10% 10% 10% 10% 10% 10% 10% 10% 10% 10% 10% General & Administrative 4,168 8,156 14,514 24,816 34,726 47,017 61,041 77,827 97,336 126,537 149,223 177,920 201,548 220,191 221,149 227,467 % Revenue 14% 19% 20% 21% 19% 18% 16% 15% 14% 14% 13% 13% 12% 12% 11% 10% Depreciation & Amortization 1,286 2,636 3,714 7,037 8,225 9,403 5,723 5,188 6,953 9,038 11,479 14,234 16,796 15,318 21,062 18,197 % Revenue 4% 6% 5% 6% 5% 4% 2% 1% 1% 1% 1% 1% 1% 1% 1% 1% Earnings Before Interest & Taxes (5,360) (12,840) (19,307) (31,777) (32,898) (30,897) (15,260) 10,377 29,201 59,653 92,978 157,281 235,139 329,329 431,766 516,350 EBIT Margin -18% -29% -26% -27% -18% -12% -4% 2% 4% 7% 8% 11% 14% 17% 21% 23% Other expense (income), net 2,960 35,393 44,412 402 0 0 0 0 0 0 0 0 0 0 0 0 % Revenue 10% 81% 61% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% Earnings Before Taxes (8,320) (48,233) (63,719) (32,179) (32,898) (30,897) (15,260) 10,377 29,201 59,653 92,978 157,281 235,139 329,329 431,766 516,350 % Revenue -28% -110% -87% -27% -18% -12% -4% 2% 4% 7% 8% 11% 14% 17% 21% 23% Less Taxes (Benefits) 72 137 181 (789) (658) (618) (305) 519 2,044 4,176 9,298 15,728 35,271 72,452 116,577 154,905 Tax Rate 1% 0% 0% -2% 2% 2% 2% 5% 7% 7% 10% 10% 15% 22% 27% 30% Net Income (8,392) (48,370) (63,900) (31,390) (32,240) (30,279) (14,955) 9,858 27,157 55,477 83,680 141,553 199,868 256,877 315,189 361,445 Net Margin -29% -111% -88% -27% -18% -11% -4% 2% 4% 6% 7% 10% 12% 13% 15% 16% Add Back: Depreciation and Amortization 1,286 2,636 3,714 7,037 8,225 9,403 5,723 5,188 6,953 9,038 11,479 14,234 16,796 15,318 21,062 18,197 Add Back: Interest Expense*(1-Tax Rate) 653 1,113 885 453 0 0 0 0 0 0 0 0 0 0 0 0 Operating Cash Flow (6,453) (44,621) (59,301) (23,900) (24,016) (20,875) (9,232) 15,047 34,109 64,516 95,159 155,787 216,664 272,195 336,251 379,643 % Revenue -22% -102% -81% -20% -13% -8% -2% 3% 5% 7% 8% 11% 13% 14% 16% 17% Current Assets 22,304 32,142 126,845 141,573 181,114 244,745 324,647 434,192 584,684 739,301 927,732 1,141,684 1,319,265 1,503,962 1,638,057 1,780,475 % Revenue 76% 73% 174% 120% 99% 91% 85% 84% 84% 82% 81% 80% 79% 79% 78% 78% Current Liabilities 26,631 45,998 67,089 114,038 171,220 242,032 328,823 435,737 578,603 724,450 913,738 1,129,422 1,315,285 1,509,234 1,640,409 1,773,554 % Revenue 91% 105% 92% 97% 94% 90% 86% 84% 83% 80% 80% 79% 78% 79% 78% 78% Net Working Capital (4,327) (13,856) 59,756 27,535 9,894 2,712 (4,176) (1,545) 6,081 14,851 13,995 12,262 3,980 (5,272) (2,351) 6,921 % Revenue -15% -32% 82% 23% 5% 1% -1% 0% 1% 2% 1% 1% 0% 0% 0% 0% Change in Working Capital 3,765 (9,529) 73,612 (32,221) (17,641) (7,182) (6,888) 2,630 7,626 8,770 (857) (1,733) (8,282) (9,252) 2,921 9,272 Capital Expenditures 1,599 2,898 3,806 7,153 5,057 4,118 5,256 6,864 8,981 9,815 11,118 12,508 14,848 16,368 18,884 23,841 Unlevered Free Cash Flow (11,817) (37,990) (136,719) 1,168 (11,432) (17,811) (7,600) 5,552 17,502 45,931 84,897 145,012 210,098 265,079 314,446 346,529 Discounted Free Cash Flow (10,306) (14,475) (5,568) 3,667 10,420 24,650 41,074 63,245 82,603 93,951 100,467 99,809 Intermediate Growth Cash Flows 2025E 2026E 2027E 2028E CF 374,252 400,449 424,476 441,456 Discounted CF 97,173 93,731 89,566 83,971 Growth 8% 7% 6% 4% EBITDA (4,074) (10,204) (15,593) (24,740) (24,674) (21,493) (9,538) 15,565 36,153 68,692 104,456 171,515 251,935 344,647 452,828 534,548 EBITDA Margin -14% -23% -21% -21% -14% -8% -3% 3% 5% 8% 9% 12% 15% 18% 22% 24% EBITDA Growth 150% 53% 59% 0% 13% 56% -263% 132% 90% 52% 64% 47% 37% 31% 18% UOIG 16
Appendix 3 Discounted Cash Flows Analysis Assumptions Discounted Free Cash Flow Assumptions Tax Rate 30.00% Terminal Growth Rate 3.00% Risk Free Rate 1.78% Terminal Value 5,734,203 Beta 1.58 PV of Terminal Value 1,090,722 Market Risk Premium 5.79% Sum of PV Free Cash Flows 853,978 % Equity 99.84% Firm Value 1,944,700 % Debt 0.16% Total Debt 2,752 Cost of Debt 5.20% Cash & Cash Equivalents 76,442 CAPM 10.94% Market Capitalization 1,941,948 WACC 10.93% Fully Diluted Shares 53,384 Implied Price $36.38 Current Price $33.19 Undervalued 9.60% Considerations Appendix 4 Revenue Model Revenue Model ($ in thousands) 2009A 2010A 2011A 2012A 2013E 2014E 2015E 2016E 2017E 2018E 2019E 2020E 2021E 2022E 2023E 2024E Total Revenue $29,322 $43,731 $73,022 $117,914 $182,767 $268,667 $381,507 $518,850 $695,259 $903,836 $1,147,872 $1,423,362 $1,679,567 $1,914,706 $2,106,176 $2,274,671 % Growth 49% 49% 67% 61% 55% 47% 42% 36% 34% 30% 27% 24% 18% 14% 10% 8% UOIG 17
Appendix 5 Working Capital Model Working Capital Model ($ in thousands) 2009A 2010A 2011A 2012A 2013E 2014E 2015E 2016E 2017E 2018E 2019E 2020E 2021E 2022E 2023E 2024E Total Revenue $29,322 $43,731 $73,022 $117,914 $182,767 $268,667 $381,507 $518,850 $695,259 $903,836 $1,147,872 $1,423,362 $1,679,567 $1,914,706 $2,106,176 $2,274,671 Current Assets Cash and cash equivalents 8,061 7,067 85,409 76,442 82,245 104,780 133,528 174,852 236,388 286,516 355,840 434,125 487,074 555,265 600,260 659,654 % of Revenue 27% 16% 117% 65% 45% 39% 35% 34% 34% 32% 31% 31% 29% 29% 29% 29% Accounts Receivable 12,075 20,876 34,110 47,528 75,110 110,411 156,784 212,643 285,723 371,440 468,583 579,456 681,030 776,374 848,241 916,100 % of Revenue 41% 48% 47% 40% 41% 41% 41% 41% 41% 41% 41% 41% 41% 41% 40% 40% Days Sales Outstanding 150 174 170 148 150 150 150 150 150 150 149 149 148 148 147 147 Deferred commisions 1,445 2,330 3,537 9,354 12,794 16,120 19,075 25,942 34,763 45,192 57,394 71,168 83,978 95,735 105,309 113,734 % of Revenue 5% 5% 5% 8% 7% 6% 5% 5% 5% 5% 5% 5% 5% 5% 5% 5% Prepaid expenses and other assets 723 1,869 3,789 8,249 10,966 13,433 15,260 20,754 27,810 36,153 45,915 56,934 67,183 76,588 84,247 90,987 % of Revenue 2% 4% 5% 7% 6% 5% 4% 4% 4% 4% 4% 4% 4% 4% 4% 4% Total Current Assets 22,304 32,142 126,845 141,573 181,114 244,745 324,647 434,192 584,684 739,301 927,732 1,141,684 1,319,265 1,503,962 1,638,057 1,780,475 % of Revenue 76% 73% 174% 120% 99% 91% 85% 84% 84% 82% 81% 80% 79% 79% 78% 78% Long Term Assets Net PP&E Beginning 1,018 2,229 3,976 3,663 7,947 9,979 10,832 13,034 17,007 22,542 29,393 37,460 47,084 58,357 71,840 86,884 Capital Expenditures 1,599 2,898 3,806 7,153 5,057 4,118 5,256 6,864 8,981 9,815 11,118 12,508 14,848 16,368 18,884 23,841 Depreciation and Amortization (388) (1,151) (4,119) (2,869) (3,025) (3,265) (3,054) (2,891) (3,446) (2,964) (3,051) (2,884) (3,575) (2,885) (3,840) (6,457) Net PP&E Ending 2,229 3,976 3,663 7,947 9,979 10,832 13,034 17,007 22,542 29,393 37,460 47,084 58,357 71,840 86,884 104,268 Total Current Assets & Net PP&E 24,533 36,118 130,508 149,520 191,093 255,577 337,681 451,199 607,226 768,694 965,192 1,188,768 1,377,622 1,575,802 1,724,941 1,884,743 % of Revenue 8% 9% 5% 7% 5% 4% 3% 3% 3% 3% 3% 3% 3% 4% 4% 5% Current Liabilities Accounts Payable 1,505 4,554 3,834 4,849 9,289 13,397 18,657 24,808 33,868 41,601 52,834 62,612 74,085 78,949 80,785 85,066 Days Payable Outstanding 66 122 69 54 70 70 70 70 70 70 70 70 70 70 70 70 % of Revenue 5% 10% 5% 4% 5% 5% 5% 5% 5% 5% 5% 5% 4% 5% 5% 5% Accrued Expenses 3,619 6,556 8,039 14,986 25,587 34,927 41,966 51,885 69,526 81,345 103,308 128,103 134,365 153,176 168,494 181,974 % of Revenue 12% 15% 11% 13% 14% 13% 11% 10% 10% 9% 9% 9% 8% 8% 8% 8% Deferred revenue, current portion 18,726 32,745 52,338 87,759 129,764 188,067 263,240 352,818 469,300 596,532 751,856 932,302 1,100,116 1,270,407 1,385,864 1,501,283 % of Revenue 64% 75% 72% 74% 71% 70% 69% 68% 68% 66% 66% 66% 66% 66% 66% 66% Capital lease obligations, current portion 694 1,369 1,617 1,643 1,828 2,149 2,289 2,594 2,781 1,808 2,296 2,135 2,519 2,872 2,106 2,275 % of Revenue 2% 3% 2% 1% 1% 1% 1% 1% 0% 0% 0% 0% 0% 0% 0% 0% Debt, current portion 2,014 14 265 916 1,097 806 763 1,038 1,391 904 1,148 1,423 1,680 1,915 1,053 1,137 % of Revenue 7% 0% 0% 1% 1% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% Other Liabilities 73 760 996 3,885 3,655 2,687 1,908 2,594 1,738 2,260 2,296 2,847 2,519 1,915 2,106 1,820 % of Revenue 0% 2% 1% 3% 2% 1% 1% 1% 0% 0% 0% 0% 0% 0% 0% 0% Total Current Liabilities 26,631 45,998 67,089 114,038 171,220 242,032 328,823 435,737 578,603 724,450 913,738 1,129,422 1,315,285 1,509,234 1,640,409 1,773,554 % of Revenue 91% 105% 92% 97% 94% 90% 86% 84% 83% 80% 80% 79% 78% 79% 78% 78% Appendix 8 Sources Sources Cornerstone OnDemand Investor Relations Gartner SEC Filings Cornerstone OnDemand investor presentations Forrester Press releases IDC Earnings call transcripts Deloitte Factset Yahoo Finance UOIG 18