How will relative valuation impact the performance of Canada's latest tech IPO?

Over the course of his nine years as Chief Executive Officer of Waterloo’s Descartes Systems (DSG:TSX), Art Mesher would always remind Canadian institutional investors about the relative valuations of Canadian and U.S.-based software companies.  It galled him, circa 2010, that a Canadian small/midcap software company with attractive attributes would be valued substantially lower than the same type/size of firm south of the border.

By the end of his tenure in 2013, that Canadian discount had finally narrowed.  Whether it was due to his evangelizing, or a byproduct of ongoing bargain-hunting M&A activity, the day came when firms such as Descartes could look at their U.S. comps and feel comfortable about relative valuations in North America.

On the heels of the successful Kinaxis (C$13 to C$86) and Shopify (US$17 to US$93) IPOs, all in the space of just two years, it appears that the “Canadian discount” might be a thing of the past for our best-and-brightest.  As Real Matters (REAL:TSX) begins trading today, I thought I’d have a look at the relative valuation of our Wellington Financial Fund III portfolio company as compared to three of the household tech names (KXS, OTC/OTEX and SHOP) that are owned by many Canadian institutional investors (I converted RM’s C$ share price to US$ as its financials are reported in US$).

For all of the hand-ringing about the top seven institutional buyers of the Real Matters IPO being Canadian money managers (see prior post “Can you have too much ‘Cancon’ in your TSX IPO?” May 8-17), you can see why: a very attractive valuation relative to other obvious names.  Research analysts well know that Real Matters’ revenue isn’t pure software, as banks and insurance companies use Real Matters’ software platform to acquire certain valuation services, which are charged as a package.  That’s why KXS and SHOP achieve far higher multiples.  Open Text might be seen as a better comparable, given the larger services component of its business, but it is a slow-grower (at least organically).  Which reintroduces faster-growing KXS and SHOP to the comparable valuation conversation.  While none of KXS, OTEX and SHOP are pure comps, these will invariably be some of the names that investors and analysts will be considering this morning when Real Matters CEO Jason Smith rings the bell at the Toronto Stock Exchange at 9:30 a.m.

Whether it was valued on a trailing 12 month revenue or on a run-rate basis, and despite the bifurcated nature of the revenue base, you can see — from a relative valuation standpoint — why Mr. Smith’s IPO was seven times oversubscribed.

Congratulations to all involved.

MRM

(disclosure: our Fund III has equity securities in RM, and I bought some personally via the IPO)