Intelligent Investor:

Stormy times for Vista

This market leader in cinema software has been hit hard by the pandemic and its core product is undergoing a major overhaul.

Whenever you're next lining up at the movies, waiting your turn to be gouged on popcorn, peer over at the software the clerk uses to take your order. It's almost certain to be a Vista product - the company's point-of-sale (POS) software is used in 97% of Australian cinemas.

Key Points

• Software company available at deep discount

• Plenty to like but plenty of risks

• Ugly results to come

Ubiquity came about by solving a small but significant problem: cinema ticketing and snacks counters used separate POS systems, so tallying up receipts and sending figures back to headquarters was time-consuming. For the largest international cinema chains - perhaps managing thousands of screens - that time equalled serious money.

Market domination

So in 1996, Australian-based Village sought to solve the issue, entering a joint venture with Vista Group to develop software that would merge cinema POS systems. The result was Vista Cinema and, while it sounds like kindergarten stuff today, it was a massive improvement. Orders began to roll in from cinema circuits all around the world.

Vista wasn't the world's first POS provider, but it was the first to focus exclusively on the cinema industry. Main competitors like NCR Global served a broader range of industries like petrol stations, restaurants and retail.

By concentrating on cinema, Vista has crafted a product that solves the industry's unique pain points. So, although Vista Cinema started life as a basic POS system to help sell ice cream and movie tickets, the 24 years of continuous improvement since then have transformed it into an entire operations, sales and finance manager for cinema circuits.

The sweet product fit led to market domination. Vista's POS solutions are now used by 40% of large cinema circuits globally. And, following the recent NCR decision to exit its unprofitable North American cinema division, management thinks it can keep growing share as the only remaining players are localised and small.

It's difficult to compete with Vista. Scale allows it to invest more in sales, marketing and product development than a newer entrant. Its unmatched customer base serves as fuel for never-ending product improvements and reduces reliance on key customers. And because the software is mission critical and requires a large upfront investment, customers rarely leave, and the company can lift prices and tack on recurring services.

Alongside a basket of smaller ventures and stakes in movie-related businesses, the company also owns Movio, a cloud-native data analytics business that helps studios and cinemas connect moviegoers with movies they're likely to watch. It's an interesting business that's growing briskly, although for now it only makes up 18% of group revenues.

So why has the share price fallen 78% from the $5.72 all-time-high it set last year? And why does Vista trade on just 2 times sales, while fellow software provider Xero trades on 20?

Investors burned

For one, 67% of revenue comes from Vista Cinema, which is primarly on-premise software. The revenue is earned in two stages: an upfront licensing fee per site, followed by recurring service and consulting fees that rise with inflation. The company does offer a scaled-down SaaS version of the software called VEEZI - but that's just for smaller chains so, for now, only half of the division's revenues are recurring.

As we explained in Diving into the Cloud: Part 1, that means new customers must procure on-site servers and telecommunication services - plus full-time IT professionals - before they can start using the product, and usually can't access software from home. Additionally, SaaS is typically more user friendly, and existing customers don't have to wait or pay for software upgrades to get the latest product features.

The advantages of SaaS mean that should a start-up get a quality product into the market and target Vista's customers, it might be able to make inroads quickly, much in the way Xero surprised heavyweight Intuit in the accounting industry. Presumably to avoid a similar fate, Vista announced a year ago it would begin making the switch (see chart).

In the short term, the transition will be painful. Heavy investment is required and substantial upfront licencing revenues will evaporate as they are traded for recurring subscription revenues. Meanwhile, customers are likely to defer orders until the new product is complete.

The result is increasing costs and falling revenues and, for a market leader like Vista, there's no promise of juicy market share gains to make it all worthwhile. In fact, getting existing customers to switch to the new SaaS offering can prove tricky, as often they've made significant upfront investment in on-premise software and must pay higher subscription fees.

This is the oft-hidden risk of investing in software businesses; underinvestment can remain hidden for years, and by the time the company begins losing customers or announces a major product overhaul, it's often too late. At least in Vista's case, that risk now appears to be behind us.

We've invested in these situations in the past, notably upgrading mining software business RPM Global as it underwent a similar transition.

The pandemic hits

The pandemic adds another layer of difficulty, as Vista had planned to finance the transition with cash flow from its existing businesses. But cinemas have been decimated; customers can't pay and new orders have dried up. Some will fail and, in the meantime, Vista is bleeding cash.

The company has responded by reducing staff numbers, raising capital and securing amendments to its interest cover covenants. Further cost savings can be made by flexing sales, marketing and incentive spend, and the company has released a 'COVID cinema reopening kit', which helps customers with contact tracing, social distancing requirements and contactless bookings.

Even as screens reopen in parts of the world, studios are withholding blockbuster content, so crowds will be slow to return. Many marginally profitable cinemas may never reopen, so some of Vista's revenue will be gone for good.

But management thinks its balance sheet is strong enough to support the switch to SaaS and survive 'downside scenarios' through to the end of 2021. Reassuringly, insiders participated in the most recent raise.

Vista Cinema's SaaS product is slated for 2021, and management hopes to move a third of customers onto the cloud by 2025. Longer term, the pandemic might help Vista; it should hit smaller and more geographically concentrated competitors harder, and it should keep would-be entrants at bay during the vulnerable period while it transitions to SaaS. As cinemas come back, they'll need software, and Vista's strong heritage suggests it should emerge with a commanding grip over the industry.

So, what's the upside if everything goes right?

Post-virus analyst consensus is for 2023 sales to reach $140m-150m by 2023. By then growth should have returned, driven by regular price increases and a continued rollout in developing markets, where screens per person are far below levels in Western countries. Assuming a multiple of 3-4 times forward sales, that could imply a company valuation of $420m-600m by 2022, roughly 50-100% higher than the current price. With the capital raising now complete and the ingredients of a strong software business in place, there's plenty of upside if the new management team can execute.

Biding time

Still, Vista's product is undergoing massive change, the pandemic is taking its toll and staff morale will be reeling as the business undergoes a painful restructuring. Longer term, a shift towards in-home content and direct-to-consumer releases is putting more pressure on its cinema customer base too and it's still unclear how many cinemas will be closed for good. With an ugly set of numbers to come, we'll keep an eye on the company and be on the lookout for an opportunity.