Citron Research Reports on Vistaprint (VPRT)

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What are you going to do if 44% of your net income disappears?

For the past few years, Vistaprint has been a controversial name amongst investors.  On one hand you have a printing servicing company that provides printed products to small business at an affordable price.   But on the other hand, you have a company with a dirty secret which derives a large portion of its income from “referral fees” – from companies that offer web loyalty shopping clubs, or in layman terms, those $14.95 a month charges on your credit card bill that leave you scratching your head.

The word “referral” sounds innocent enough, but in real terms, as a consumer, when you complete an online purchase, you are shown a button saying something like “Save $10 on your Next Purchase from this Company”.  Beware!  If you click, even accidentally, your full contact info, but worse, your credit card information, is sent on without your permission to a 3rd party company you haven’t given your permission to.  From that point, the debate rages about how many of these charges represent trickery, and how many more are simply fabricated without the consumer’s consent or knowledge.

“You don’t have to be a Rockefeller to help a fella’…”… but it helps!

For years short sellers have criticized this business model, but love it or hate it the money kept coming in….well all that is about to change.  This past quarter Senator John D Rockefeller IV has decided to make these web loyalty programs the target of a Senate Commerce Committee formal inquiry.
http://commerce.senate.gov/public/_files/52709GaryJohnsonVertrueLetter0.pdf

Here is some more reading on Rockefeller and his mission.
http://consumerist.com/5272853/rockefeller-goes-after-webloyalty-and-vertrue

Should have seen this coming

The company has been giving tells that the relationship with their referral provider Vertrue was having troubles.  As stated in their last 10-K: 

“We expect that revenues we derive from third party referral programs, particularly membership discount programs, will decrease in the future, which could adversely affect our results of operations.”  They go on to state:  “…we expect that referral fee revenue from membership discount programs will decline in absolute dollar terms over that period of time, including possibly to as low as zero…”

It is the opinion of Citron that neither Vistaprint nor their web loyalty partner saw this Congressional probe coming.  They were probably referring to the seven class action lawsuits that were filed against Vistaprint and Vertrue.

http://classactiondefense.jmbm.com/2009/02/class_action_defense_casesin_r_133.html

None of this is surprising considering the massive volume of complaints that exist online about Vistaprint for unauthorized credit card charges:

http://www.consumeraffairs.com/online/vistaprint.html
http://www.complaintsboard.com/bycompany/vistaprint-a32416.html

So what happens if the referral business goes away?

Well here is where the devil lies in the details.  To be current, we will examine the last 2 quarters.

                                                                       Mar 2009 Dec 2008
Revenue                                  

127,523

138,903

Pretax earnings

15,506

20,438

Pretax earnings minus Referral Revenue

8,748

14,048

Referral revenue

6,758

6,390

Referral as % revenue

5.3%

4.6%

Referral as % Pretax income

43.6%

31.3%

Vistaprint’s cheerleaders will have you believe referral is not a problem because even if it goes away, it only represents a bit more than 5% of revenue last quarter. What they don’t tell you is that with the margin it carries, this type of business, which according to the company’s own disclosures is generated with zero operational costs, represents close to 44% of Vistaprint’s net income.  If you compare the past two quarters you will see that the company is becoming increasingly dependent on that income.  Vistaprint’s already aggressive 36.5 PE balloons to an unsupportable 64.75 for its non-referral business.

How will Vistaprint ever be able to grow their business and fill a void left by this free boost to earnings which they been enjoying for years?  We guess the old adage holds true, “if it seems too good to be true it probably is” When you generate such a significant part of your income from a non- core business that has generated so much scrutiny, it will eventually come to an end.

Taxes

Additionally, Vistaprint has yet to project the effects on its earnings of tightening tax rules on its foreign domestication (currently Bermuda).  Its current tax rate is 8.6%, compared to typical 35% – 40% for typical US companies. 

The current administration has made it clear that these types of tax dodges are clearly in its sights.   Even though the company has changed their domicile to the Netherlands, this should still be of concern to shareholders.

Conclusion

Many times, critics of a company are way too early in predicting when a business model will start to unravel.  Commonly enough, as in Vistaprint’s case, a steady stream of insider selling provides a reliable hint to cautious investors. 

With the current class action lawsuits combined with the Senate finally paying attention to these unscrupulous business practices, Vistaprint had better quickly define a “plan B” to replace 45% of its net in income in its future.

Cautious investing to all.