Revenue Gets Rich Price Tag in IPOs; Small Firms With Small Sales Seeing Lofty Valuations; Castlight Health Offering to Test Appetites

Revenue Gets Rich Price Tag in IPOs

Small Firms With Small Sales Seeing Lofty Valuations; Castlight Health Offering to Test Appetites

MATT JARZEMSKY And TELIS DEMOS

March 12, 2014 9:13 p.m. ET

The bull market for initial public offerings of small companies with scant sales is about to get a check-up.

Health-care software maker Castlight Health Inc., an unprofitable company that had just $13 million in revenue last year, could be valued at more than $1 billion when its shares are priced on Thursday. The deal will be a test of investor appetite for high-priced IPOs.

So far this year, the average company going public is smaller on a revenue basis, and more expensively valued relative to those revenues at its IPO price, than in any year since the peak of the dot-com era in 2000.

IPOs of unprofitable companies have become a relatively common sight, with Twitter Inc.TWTR +0.89% being the most visible example.

But with the debut of Castlight, high valuations are being taken to a whole new level, some investors said. Castlight expects to sell 11.1 million shares for $13 to $15 each, for a market value of $1.2 billion at the midpoint of that range.

At that price, Castlight would be worth 93.4 times last year’s revenue, a ratio of its price to company sales higher than on any IPO with more than $10 million in sales since 2001, according to data compiled by University of Florida Professor Jay Ritter.

Twitter was priced at 26.5 times revenue and the median IPO in 2014 through February was priced at 14.5 times the company’s latest year’s revenue, the highest in 14 years, according to Mr. Ritter.

“This shows me that we’re getting close to the top, when a company this small can do its IPO,” said Paul Meeks, technology analyst at Saturna Capital, which oversees $4 billion.

“Companies are coming public now that are more real and have real prospects than before, when Pets.com came public in the late 90s,” Mr. Meeks said, referring to the short-lived online business that went public at the top of that era’s tech bubble. “However, as always you’re seeing the pendulum swing. Things still have gotten highly speculative.” Mr. Meeks said he is putting Castlight on a list of potential stocks to bet against.

Still, among many investors and analysts, Castlight’s proposed IPO price isn’t unreasonable. On Tuesday the company raised its price forecast for the deal from an earlier projection of $9 to $11 a share, typically a sign of heavy demand for the IPO.

Castlight applies the kind of “cloud” software model that has been a hit with tech investors to a potentially vast customer base: big corporations looking to slow rising employee health-care costs. Supermarket operator Safeway Inc., tech giant Microsoft Corp. and manufacturer Honeywell International Inc. have signed on for its service, which provides employees information on the cost and quality of care, according to Castlight’s IPO prospectus.

A spokeswoman for Castlight declined to comment.

Broadly speaking, investors have eagerly bought other “software as a service” companies, which deliver their software over the Web to customers that pay via subscriptions. Workday Inc., which applies the same business model to human-resources software, has seen its shares rally 267% since its IPO in 2012. Investors have snapped up shares of software companies operating this way, betting they’re better-positioned than traditional business-technology providers like Oracle Corp. or Microsoft.

For Castlight, “it’s early, but it seems like they have a lot of momentum and a leading market solution in an area that needs to be addressed,” said Craig Richard, co-manager of the $570 million Buffalo Emerging Opportunities Fund. He declined to say if he plans to buy shares in the IPO.

When it comes to risks of investing in the company, “you always worry about someone coming out with version 2.0 that could potentially be better,” Mr. Richard said. “But all signs are that we’re going towards shifting the responsibility of healthcare costs to the employee, and this solution squarely addresses that.”

Wall Street, meanwhile, is banking on Castlight quickly ramping up revenues.

The company may grow revenues by 184% this year, to $37 million, and then 98% the next year, to $73.4 million, according to estimates by analysts at Goldman Sachs Group Inc.GS -0.10% and Morgan StanleyMS -0.82% the banks leading Castlight’s IPO, according to investors familiar with the discussions. The forecasts predict revenues of over $120 million by 2016, they said.

These are forecasts that the banks’ analysts build leading up to an IPO, which aren’t published or presented in the company’s offering documents, though they are shared with large investors.

Spokeswomen for Goldman and Morgan Stanley declined to comment.

Still, at the proposed high end of Castlight’s IPO price range, $15 a share, that would amount to 17.7 times the projected 2015 sales, higher than the comparable 7.6 times sales multiple for health-records and billing software maker Athenahealth Inc.ATHN +0.46% and 17.3 times for Workday.

If successful, bankers are looking to Castlight’s debut to embolden other young, small companies seeking to go public. Already in the private markets, companies such as Pinterest Inc. and Whatsapp have achieved multi-billion-dollar valuations despite having just begun to generate revenue.

“It’s very encouraging to see a company with this little revenue try to go public,” said Tim Keating, chief executive of Keating Capital Inc., which invests in private companies with the aim of profiting when they go public. “We’ll be circulating the Castlight prospectus to some of our portfolio companies.”

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About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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