Wall Street is in love with digital ad stocks again — but investors could be missing a big blind spot

  • Adtech share prices are undergoing a resurgence, with stocks up 57% year-to-date.
  • The sector has benefited from COVID-accelerated trends, such as the shift to digital content consumption and e-commerce, and the wider stock market rally.
  • But some experts say the current valuations aren’t sustainable.
  • Visit Business Insider’s homepage for more stories.

After a rocky few years, adtech stocks are soaring once again.

Shares of The Trade Desk, the sector’s star performer with a market capitalization of more than $36 billion, were trading up 206% this year through November 18. Magnite, the newly formed company from the merger between Rubicon Project and Telaria, was up 34%; bank-focused adtech outfit Cardlytics soared 79%.

Even French adtech company Criteo, whose stock has largely traded downwards over the past three years, was up 5%. 

Overall, according to an analysis by investment bank LUMA Partners, adtech stocks are up 57% so far this year, based on the median average of those four stocks. Since March 24, as the pandemic took hold, those stocks are up 165%. By comparison, the S&P 500 is up around 10% so far this year.

Read more: Here are the 18 hottest adtech companies of 2019

The adtech rally flies somewhat in the face of trends at the beginning of the pandemic, when many advertisers hit pause on spendingbefore spending started recovering around May. Moreover, with tough competition with Google and Facebook for digital ad dollars and a string of high-profile casualties in the space, investors had long turned their back on the adtech sector.

To be sure, much of the resurgence in adtech stocks has little to do with the sector itself and more with the wider macroeconomic environment, experts say. Nonetheless, two pandemic-led trends — a rise in digital content consumption and the shift toward e-commerce — has also revived some investor excitement in the space.

As a result, the ground now appears fertile — after a barren period — for more adtech initial public offerings. PubMatic, a supply-side platform, filed last week to raise $75 million in an IPO. Ad verification company DoubleVerify is preparing an IPO for early next year, Bloomberg first reported last month. PubMatic declined to comment for this article, citing its SEC-mandated quiet period. A spokesman for DoubleVerify declined to comment.

With an eye on The Trade Desk’s current market valuation, many adtech companies see IPOs as a more cost-effective way of raising funds than venture capital, which has cooled on the space, said Abeed Janmohamed, director of M&A advisory joint venture Waypoint Partners and VOGL.

Read more: Advertisers are about to start spending again

MediaAlpha, an adtech company that focuses on the insurance sector, went public in October. Its share price has increased 16% to $39.37 and the company has a market capitalization of more than $2.3 billion. 

“With favorable market conditions and strength in the InsureTech sector, which is really where we play, we felt the time was right to move forward with our IPO,” emailed Steve Yi, MediaAlpha CEO. “But the real driver is our fundamentals — our core business is strong, even in these challenging times. The market will typically recognize that regardless of the sector you’re in.”

Adtech is riding the coattails of the broader tech sector

The wider technology sector’s strong performance — with S&P 500 tech stocks up more than 30% so far this year — “creates a tailwind for small adtech,” said independent media analyst Alex DeGroote. 

Unlike sectors like transport and hospitality, tech companies — from Amazon, to Zoom, to Apple — thrived throughout the pandemic. With interest rates low, other asset classes — such as commercial property — severely disrupted and the bond market inverted, “equity is the only game in town” for many investors, said Arete senior analyst Richard Kramer.

And public investors have been eager to bet on high-growth, tech-focused companies. The pandemic has accelerated trends that have long been seen as benefitting adtech, such as connected-TV and e-commerce. With sports canceled and major productions put on hold during the earlier throes of the pandemic, many TV advertisers sought to reach their audiences through digital channels. 

Read more: Spotify and iHeartMedia have been splurging on audio companies. Here are 5 podcast firms that could be acquired next and who could buy them.

“The big takeaway from what’s going on in the public markets is investor confidence in these trends that are skewing more towards digitally enabled advertising and consumer usage of those channels only increasing,” said Conor McKenna, VP at LUMA Partners. 

At the same time, the adtech market has matured and it’s been a while since the last high-profile flameout. In one of the most notable examples, Rocket Fuel in 2018 sold to fellow adtech company Sizmek for $125.5 million, a fraction of its peak valuation of around $2 billion. A year later, Sizmek itself filed for Chapter 11 and sold its assets at firesale prices to Amazon and Zeta Global.

Wall Street has also become “collectively more sophisticated” in analyzing adtech, said GroupM global president of business intelligence Brian Wieser.

A bubble waiting to burst?

On the contrary, said Arete’s Kramer, some investors may simply be buying into hype and momentum around the adtech sector’s biggest companies, irrespective of valuation.

“One explanation is that the analysts — sycophants and stenographers to the companies they seek banking work from — are willing to blindly accept partial explanations, for example, that CTV is growing fast without ever revealing the size of the CTV market, or that companies which clearly rely on volumes of ad sales are somehow generating [software-as-a-service] licence fees,” Kramer said.

For all the recent interest and upward share price movement, the old issues that have disrupted adtech in the past haven’t gone away.

Google and Facebook still dominate the digital ad market. The space is highly competitive and, in many areas, commoditized. Plus, new privacy challenges lie in wait that could hamper adtech companies’ ability to track users and target them with personalized ads. Changes include Apple’s forthcoming in-app privacy update due next year, Google’s plan to drop third-party cookies in Chrome in 2022, and the enforcement of various global privacy regulations. For its part, the adtech sector is banking on the uptake of so-called “universal ID” solutions to nullify these disruptions.

“I am surprised that investors now appear prepared to overlook the low level of transparency, impact of regulation — which is more likely under a Biden Presidency — and the impact of ongoing competition from the big walled garden operators,” said DeGroote.

With adtech multiples increasing so significantly over such a short period of time — and earnings rising, but not at the same rate — there’s a lurking threat of a bubble bursting.

The Trade Desk’s current enterprise value to EBITDA (earnings before interest, tax, depreciation and amortization) multiple is 53x, versus 20x at the end of last year. Cardlytics is trading at 16x (2019: 7.3x); Magnite at 5X (2019: 3x); and Criteo at 1X (2019: 1x).

The adtech sector “does have a bit of a sense of fragility about it right now,” said a media banker who declined to be named. “At any moment all it takes is a couple of bad issuances and then appetite completely cools.”

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