CoStar Group, Inc. — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018; comparisons are year over year unless noted. CoStar provides commercial real estate information, analytics and online marketplaces, primarily through automatically renewing subscription agreements.
Financial performance
| Metric | Q3 2018 | Q3 2017 | First nine months 2018 | First nine months 2017 |
|---|---|---|---|---|
| Revenue | $305.5m | $247.5m | $876.3m | $711.2m |
| Gross profit / margin | $233.5m / 76% | $192.1m / 78% | $674.6m / 77% | $549.1m / 77% |
| Operating income | $70.7m | $57.5m | $167.9m | $123.1m |
| Net income | $58.8m | $34.2m | $154.8m | $78.5m |
| Diluted EPS | $1.61 | $1.04 | $4.25 | $2.40 |
| EBITDA (company-reported non-GAAP measure) | $91.1m | $72.6m | $225.9m | $171.3m |
- Q3 revenue rose 23%; net income rose 72%. Nine-month revenue increased 23%, net income 97%, and operating income 36%.
- Q3 revenue growth was led by CoStar Suite (+19%) and multifamily (+45%, primarily reflecting the ForRent acquisition); commercial property and land grew 12%. Information services declined 6% as legacy LoopNet services were phased down.
- Q3 gross margin fell to 76% from 78%, with higher research and other costs. Nine-month gross margin remained 77%.
- Nine-month operating cash flow was $220.7m, versus $163.3m. Investing cash outflow was $361.9m, largely reflecting the ForRent acquisition; financing cash flow was positive $2.1m. Cash decreased $139.7m from year-end 2017.
- At September 30, cash and cash equivalents were $1,071.8m; current assets were $1,179.3m and current liabilities $153.5m. CoStar had no long-term borrowings and a $750m revolving credit facility, with $0.2m of letters of credit outstanding; it reported compliance with facility covenants.
Material changes and business developments
- ForRent was acquired in February 2018 for approximately $376m: about $340m cash and $36m in stock. It contributed an estimated $50m of revenue from acquisition through September 30. Goodwill increased by approximately $266.5m; purchase accounting remains preliminary. Integration and cross-selling are underway.
- Annualized net bookings were approximately $40m at September 30, compared with $34m a year earlier. The nine-month renewal rate for existing CoStar annual subscriptions was approximately 90%, unchanged from the prior-year period.
- On October 12, 2018, CoStar acquired U.K. platform Realla; final purchase price remained subject to customary adjustments.
- ASC 606 adoption increased opening retained earnings by $54.5m. For the first nine months, the company estimated that without adoption revenue would have been $3m lower and net income about $6m lower.
Outlook, commentary and risks
- Management expected CoStar Suite revenue growth to remain consistent with historical rates and multifamily growth to remain consistent through the end of 2018. Information services revenue was expected to be lower than the prior year as LoopNet information services are wound down. The filing provides no specific consolidated revenue or earnings guidance.
- Management said available cash and operating cash flow should fund operations for at least the next 12 months. It expects continued investment in marketing, research, product development, international operations and integration, and anticipates continued acquisition activity.
- The Tax Act and discrete items reduced the effective tax rate to 20% for Q3 and 11% for the first nine months, versus 38% and 33%, respectively, in 2017. Tax Act accounting was not yet complete; management expected to finish within the permitted measurement period.
- Litigation was described as incidental; management did not consider a loss probable and could not estimate a possible loss range, so no litigation liability was recorded. ForRent purchase accounting included estimated sales-tax and uncertain-tax liabilities, partly covered by seller indemnification.
- Risks include execution of ForRent and Realla integration and expected synergies, customer retention and acquisition, effectiveness of marketing spend, commercial real estate and economic conditions, competition, privacy and data protection, foreign currency exposure, and potential impairment of goodwill and other intangibles. CoStar reported approximately $2bn of goodwill and intangible assets.
- Approximately $10.1m of auction-rate securities remained illiquid after failed auctions. The company considered their valuation decline temporary, but noted possible future impairment or additional unrealized losses. The filing also warns that adoption of the new lease standard was expected to materially increase reported assets and liabilities.
Important facts for investors to verify
- How much of multifamily growth and future results is attributable to ForRent versus organic growth, and whether integration produces the anticipated synergies.
- Whether net bookings and renewal rates translate into sustained subscription revenue growth, particularly as LoopNet information services are phased out.
- Whether increased research, marketing and acquisition-related spending pressures margins or cash generation.
- Final ForRent purchase accounting, Realla acquisition terms and integration progress, and the evolving tax provision.
- Liquidity and valuation risks for auction-rate securities, litigation and acquisition-related contingencies, and impairment sensitivity of goodwill and acquired intangibles.