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Morningstar | Criteo's First-Quarter Results Beat Expectations, but Guidance Disappoints; Maintaining $25 FVE. See Updated Analyst Note from 30 Apr 2019

While Criteo’s first-quarter results exceeded expectations, the firm provided a disappointing revenue outlook for second-quarter and full-year 2019. Criteo experienced a sequential decline in clients and lower monetization of those clients during the quarter, which we think may continue through the year. The firm posted revenue weakness in Europe, which is indicative of the ongoing impact of Apple’s ITP, further implementation of GDPR, and further data access limitation to be possibly brought on by Google. In our view, the last one has likely lowered willingness of some of Criteo’s clients to work with the ad-tech firm (as we initially mentioned in our March 26 note). Plus, during Alphabet’s earnings call yesterday, Google’s management did mention it remains focused on improving data privacy on the Chrome browser. We lowered our gross and net revenue projections a bit, which did not impact our $25 per share fair value of Criteo. While the stock is down 12% in reaction to the firm’s lower guidance and shares appear modestly undervalued, we remind investors that Criteo remains a no-moat, negative trend, and very high uncertainty rated name.

First-quarter gross revenue came in at $558 million, down 1% from last year. Slightly lower take rate of 42% (due to increase in traffic acquisition costs) brought net revenue down 2% year over year to $236 million. While the firm added 5% more clients from last year, the client count did decline sequentially (by 46) for the first time since second quarter 2018. Gross revenue generated per client dipped 6.5% year over year, which we think was due to the ongoing GDPR implementation and clients’ uncertainty regarding what data privacy steps Google’s Chrome browser may take. More than half of Criteo’s gross revenue is dependent on the Chrome browser. We note that, according to the company, retention rate of its clients remains above 90%.

On a year-over-year basis, lower net revenue was mainly due to a 10% decline in the EMEA market. Americas, which is the highest ad spending market in the world, grew 6%. Net revenue coming in from the Asia-Pacific market increased 1% from last year. Weakness in EMEA supports our assumption that clients (for the time being) may reduce ad spending through Criteo, or may do more direct buying from Google, Facebook, or other ad suppliers. In addition, clients in the North American market may begin to behave similarly later this year, which is why we have assumed full-year net revenue at the low end of Criteo’s guidance, or around $950 million. We note that EMEA and Americas each represent around 40% of Criteo’s total gross revenue. While growth in Criteo’s other offerings such as Customer Acquisition, Audience Match, and Retail Media were impressive, revenue from these products remain less than 10% of the firm’s total revenue that is still composed mainly of retargeted ad buying.

Operating margin declined around 20 basis points from last year to 6% due to lower net revenue. There was a less than 1% growth in operating expenses as the firm is successfully controlling costs such as SG&A while facing top-line growth headwinds. Management expects this to continue as its adjusted EBITDA margin guidance of 30% remained unchanged. We are more cautious as we think the firm must increase R&D, mainly through headcount; and given how the Criteo stock has performed the last 24 months, higher stock-based compensation may not lure in talent, which will impact adjusted EBITDA.