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Elevator Pitch
I have a Hold investment rating for ON24, Inc. (NYSE:ONTF) shares.
Previously, I highlighted that ON24’s valuations were undemanding based on the price-to-revenue metric in my earlier article written on October 12, 2023. The focus of the current write-up is the review of ONTF’s recently announced results for the final quarter of the prior year.
I don’t think that ON24 warrants a Buy rating anymore, considering its lackluster FY 2024 guidance and the risk relating to lower shareholder capital returns for the short term. But there are also positive takeaways from ON24’s recent disclosures. The Q4 2023 earnings beat suggests that ONTF has done a good job in making the company leaner in terms of its cost structure, and the new AI engine could be a major growth driver. I have made the decision to lower my rating for ON24 from a Buy/Bullish to a Hold/Neutral considering these various factors.
ON24 Delivered A Massive EPS Beat For Q4
ONTF revealed the company’s Q4 2023 financial performance with a press release published on February 22 after the market closed.
The key highlight of ON24’s latest quarterly results was its substantial earnings beat. The company recorded a normalized EPS of $0.06 for Q4 2023, which represented a major turnaround from its non-GAAP adjusted Q4 2022 net loss per share of -$0.04. Prior to ONTF’s earnings release, the sell side analysts were anticipating a much more modest Q4 2023 bottom line of $0.02 for ON24 as per S&P Capital IQ consensus data. Also, ONTF’s actual fourth quarter top line amounting to $39.3 million was +5% above Wall Street’s consensus revenue estimate of $37.3 million (source: S&P Capital IQ).
Earlier, I mentioned in my October 2023 update for ONTF that “a reasonably large percentage (49% of Annual Recurring Revenue as of end-2023) of customers that are on multi-year agreements” and “a meaningful number (more than a third) of customers” utilize “more than one of the company’s products.” This explains why ON24’s revenue was stable on a QoQ basis (+0.3% QoQ top line expansion to be exact) in Q4 2023. In its Q4 2023 earnings press release, ONTF also shared that its most recent quarterly “gross retention” and “new business acquisition” metrics were the best they have been in the past three years and six quarters, respectively.
Separately, ON24 noted at its latest quarterly earnings call that the company’s “run rate annual total cost structure was approximately $61 million lower” for the fourth quarter of last year as compared to the second quarter of 2022. Also, ONTF’s sales and marketing costs (the company’s largest operating cost item) as a proportion of its top line decreased from 45% for Q4 2022 to 42% in Q4 2023. It is worth noting that I had already drawn attention to the “progress that ON24 has made in optimizing its expenses” with my prior October 12, 2023 write-up.
Unfavorable Financial Prospects And Capital Return Outlook
I am unimpressed with ON24’s financial outlook and the company’s shareholder return prospects, despite the company’s substantial fourth quarter earnings beat.
ONTF revealed in the company’s fourth quarter results release that it will be introducing “ON24 AI-powered ACE” or its “next generation AI-powered analytics and content engine” to clients in the current year. As an indication of the “AI-powered ACE” offering’s future growth potential, ON24 has already received pre-orders from various clients as per its Q4 2023 earnings call disclosures. On the flip side, this latest move could potentially affect ON24’s near-term profitability and its stance on share repurchases.
ONTF’s FY 2024 management guidance implies that the company sees its revenue and normalized EPS contracting by -11% and -61% to $145 million and $0.035, respectively in the current year.
At the company’s Q4 2023 results briefing, ON24 acknowledged that it is still faced with “a choppy environment where many customers continue to face constrained marketing budgets.” Apart from this, larger-than-expected investments relating to “ON24 AI-powered ACE” could be another reason for the company’s significantly lower FY 2024 earnings outlook. ONTF had mentioned at its most recent quarterly earnings call that it is “focused on making select investments in certain categories” which will include its new “AI-powered analytics and content engine.”
On the other hand, ONTF’s expected shareholder capital return for 2024 might fall short of expectations.
In the past two years, ON24 allocated around $166 million to share buybacks and special dividends, which represents more than half of its current market capitalization. ONTF doesn’t pay a regular dividend, and it could potentially pivot away from share repurchases going forward.
In response to a question on capital allocation and buybacks at the Q4 2023 earnings briefing, ONTF stressed that “our balance sheet remains strong, and that will allow us to invest in our strategic priorities.” It is probably reasonable to infer from ON24’s management commentary that the company’s focus is on capital investment rather than capital return for the near future. For example, ONTF might consider allocating more capital to AI-related investment to boost its future growth prospects.
To sum things up, the new AI engine is expected to have a positive impact on ON24’s growth outlook for the intermediate to long term. But it is also likely that the company’s profitability and capital return for the short term could be negatively affected by an increase in AI-related investments.
Final Thoughts
A Hold rating for ONTF is fair. ON24’s recently quarter results announcement offers both favorable and unfavorable read-throughs. On the positive side of things, the company’s cost structure has improved as evidenced by its fourth quarter EPS beat, and the new AI engine has received good interest from clients. On the negative side of things, ON24 is expected to report lower top line and bottom line for the current fiscal year, and the company might possibly allocate more capital to investments and return less capital to shareholders.
