4 Pure-Play Smart Home Stocks for IoT Investors
According to the U.S. Census Bureau, there are 138 million housing units in the United States, many of which are giant McMansions that don’t get much use. While the Australians are in a close second when it comes to average home sizes, a person in Hong Kong has just a quarter of the floor space of the average Australian or American. In the city with more skyscrapers than any other, you’ll sometimes come across the old bathroom/kitchen combo where you can literally take a shower, have a “number two,” and prepare dinner, all at the same time.
If you’re an American, home is a place to store all the stuff you plan to buy, and your fortress of consumerism needs some security and a way to reduce the energy bills required to maintain your own micro-climate. That’s where smart home technology can give large homeowners peace of mind and a more convenient environment to spend time in. Today’s smart home isn’t just about personal security, though that’s the leading reason why people are attracted to smart home products. It’s also about conservation of resources, wellness, usability, and entertainment.
Today, we’re going to look at four Internet of Things (IoT) stocks that provide pure-play exposure to the smart home theme.
|Company Name||Market Cap (billions)||Industry|
|ADT INC. (ADT)||5.7||Communications & Networking|
|ALARM.COM HOLDINGS, INC. (ALRM)||2.9||Software & IT Services|
|VIVINT SMART HOME, INC. (VVNT)||3.3||Communications & Networking|
|RESIDEO TECHNOLOGIES, INC. (REZI)||1.3||Machinery, Equipment & Components|
When evaluating these four stocks, we’ll use several metrics to help us decide if any belong in the Nanalyze Disruptive Tech Portfolio as plays on the IoT theme. Things we’d like to see include:
- A Software-as-a–Service (SaaS) business model
- Double-digit revenue growth
- International exposure or actively expanding internationally
- Breadth of offering aside from just the security use case
Let’s start with the total addressable market for smart homes.
Smart Home Total Addressable Market
A cursory look at the Alarm.com investor deck shows that only 16.66% of homes in the U.S. and Canada are smart homes. This number agrees with the below numbers from a March 2019 PCMag article showing which countries have the most smart home penetration. The U.S. leads all other countries at 15%:
In the U.S. and globally, there is plenty of room for smart homes to grow. While forward-looking growth estimates for the smart home market are so variable they’re practically useless, what they’re all roughly saying is to expect double-digit growth over the next five years at least. Let’s take a closer look at four companies that stand to benefit from those widely varying growth expectations.
If you’re from ‘Murica, you’re probably familiar with ADT logos which are often liberally displayed on properties to thwart potential criminals. As of December 31st, 2019, ADT served ~6.5 million recurring customers, (excluding contracts monitored but not owned), through more than 200 locations, 9 monitoring centers, and the largest network of security professionals in the U.S. The company has been passed around more than a dorm room bong, having been bought and sold so many times it’s difficult to keep track of them all. For the past four years, the company has managed consistently strong revenue growth.
Authorized dealers accounted for approximately half of ADT’s new customer accounts for 2019, and they just bought their largest authorized dealer that accounted for 55% of this growth. This past summer, Google invested $450 million for a 6.6 percent stake in ADT, and the two companies will work together to build the connected home of the future.
There’s always a good debate to be had around whether or not debt is good or bad for any given company, and MBAs will attempt to prove their point using a horrible thing called the WACC. We prefer to use the KISS, and simply look at how much it costs to pay the yearly interest on any company’s debt obligations. For ADT, their $9.6 billion in debt on the books cost them $619 million in interest payments in 2019.
ADT has an 8-year estimated customer lifespan, and the corresponding accounting methods used make it difficult to figure out how capable the company is of servicing their debt. The company suggests we look at “free cash flow” instead of “operating income,” and these two numbers differ dramatically.
- 2019 Operating Income: $196 million
- 2019 Free Cash Flow: $502 million
This is where you need to have some understanding of accounting principles. Basically, the second metric – free cash flow – is not calculated in accordance with Generally Accepted Accounting Principles (GAAP), and is defined as “cash flows from operating activities less cash outlays related to capital expenditures.” ADT provides this metric to give you a better understanding of their cash position because it “adjusts for cash items that are ultimately within management’s discretion to direct.”
Unfortunately, it’s not having the intended effect. When you need to start doing a sensitivity analysis to understand a company’s future potential, it’s too complex to invest in. The financial engineering seen on display here is the result of all the corporate events in ADT’s past which are about as interesting as the accounting concepts we just bored you with. What’s more interesting is the relationship between ADT and our next company.
Alarm.com describes itself as “the leading platform for the intelligently connected property,” servicing both homes and businesses. An established network of over 9,000 service providers sell, install, and support the company’s solutions which generate SaaS and license revenues paid as monthly fees representing 67% of 2019 revenues. The remaining 33% of revenues relate to the sale of hardware such as video cameras, video recorders, cellular radio modules, thermostats, image sensors, and other peripherals.
The security and home automation market is highly fragmented with approximately 15,000 security dealers nationally. The top 5 dealers represented approximately 34% of all industry recurring monthly revenue in 2019. This is reflected in Alarm.com’s revenue concentration with the company stating:
The distribution of revenue among our service provider partners is reflective of the industry overall.
ADT, the first company we discussed in this piece, represented greater than 15%, but not more than 20%, of Alarm.com’s revenues in 2017, 2018, and 2019. The relationship is defined in a master services agreement updated in late 2019, which needs a good deep dive to understand the nuances. At a higher level, the business relationship points to the strength of the Alarm.com platform, but also presents a risk, given the two companies are competitors.
Since their IPO in 2015, Alarm.com has returned +258% compared to a Nasdaq return of +130% over the same time frame. While past performance says nothing about a company’s future potential, one could attribute this rise to the company’s consistent revenue growth over the past four years.
In their latest deck, Alarm.com claims that of the 24 million homes in the U.S. & Canada with professional security, 6.8 million are utilizing at least one of their solutions. This implies that at least one footprint from Alarm.com can be found in 28.3% of all North American smart homes. In 2019, the Alarm.com platform processed more than 200 billion data points generated by over 100 million connected devices. International expansion is in the cards with Alarm.com’s products currently localized and available in approximately 40 countries outside of North America. Unlike our next company, Alarm.com is consistently profitable and has avoided taking on large amounts of debt to fuel growth.
Vivint Smart Home Stock
Vivint is a vertically integrated smart home technology company that owns both the hardware and software which allows them to better serve their customers at a lower cost. With 1.61 million subscribers at latest count, they manage over 20 million devices and process over 1.5 billion home-related events on a daily basis. The over 300,000 new subscribers they acquired in 2019 came from two primary sales channels:
- 57% joined through their direct-to-home sales channel – 4,500 sales representatives at peak
- 43% were brought on through national inside sales, what they call “a consultative experience for consumers who contact us.”
Back in 2018, Vivint sold their products in Best Buy stores as well, but that business relationship lasted less than a year with subscriber growth stalling as a result.
Regardless, revenues for Vivint have been on the right trajectory, topping $1.16 billion in 2019:
Double-digit revenue growth is there, and the company appears to be reining in losses. The main concern we have right now is how highly leveraged the company is with debt of $3.3 billion. To put that number in perspective, interest paid on that debt in 2018 and 2019 was $227 and $252 million, respectively.
All that debt was incurred to cover the up-front cost to acquire their customers who are expected to be on the platform generating recurring revenues for ~8 years on average. Consequently, they’re using so many funky metrics that you need a secret decoder ring to figure it out.
We’re not interested in learning about how they calculate “covenant adjusted EBITDA,” or any of their other proprietary metrics. There’s a reason SaaS business models are given a premium by the market – they’re easy to understand and follow over time. When companies start to create complex ways to measure the progress of their business, they fail Mr. Buffett’s “invest in what you know” tenant.
Another thing Mr. Buffett would frown upon are all the extravagant perks for named executive officers at Vivint – personal use of their $1 million a year corporate jet, country club memberships, event tickets, the corporate suite at Vivint Smart Home Arena, etc. Executives who enjoy such extravagant perks usually don’t have their fingers on the pulse of their company because they’re too busy running Monte Carlo simulations on the umpteen metrics they’re measuring.
Resideo Technologies Stock
Perhaps the least know stock in our list, Resideo Technologies, was spun out of Honeywell in 2018 and describes themselves as “a leader in the home heating, ventilation and air conditioning controls and security markets, and a leading global distributor of low-voltage electronic and security products.” Revenues aren’t quite growing at the double-digit pace we hoped for:
While Resideo has meaningful international revenues, around 97% are outlined in contracts and satisfied at a single point in time. Without recurring revenues, their performance will be less consistent, which increases volatility, and consequently, risk.
Three key management roles were filled this year for Resideo – a new CEO, CFO, and Chief Transformation Officer – who will all work together to conduct a comprehensive financial and operational review of the company. The latest earnings deck shows they’re getting pummeled by “the Rona,” so they certainly have their work cut out for them.
Vivint rubbed us the wrong way for any number of reasons, while Alarm.com’s strategy seems to be more aligned with what we’re looking for in a smart home stock. ADT’s heavy debt and convoluted methods of accounting make the business too difficult to follow for your average retail investor. Finally, there’s Resideo Technologies, a company experiencing growing pains following their spin-out from Honeywell. While none of these smart home stocks ticked all our boxes, we think one merits a closer look.
Did we like any of these smart home stocks enough to invest our own money in them? Find out in the next release of The Nanalyze Disruptive Tech Portfolio Report, only available to Nanalyze Premium annual subscribers.