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Is MagicJack's Growth Selling for Cheap?

Wednesday - 4/3/2013, 8:30pm  ET

For VoIP leader MagicJack , things are running smoothly. Though the industry was disrupted with the emergence of free services such as Skype a few years ago, this company has found ways of remaining relevant and growing earnings -- so much so that analysts were expecting fourth-quarter revenues to climb 46.5% over the year-ago number, leading to bottom-line profitability. Yet at only 7 times forward earnings, the stock appears to be on sale. Here's what you need to know about MagicJack going forward.

Fourth-quarter boom
Late in Tuesday's trading, MagicJack's stock boosted up nearly 7 points before any earnings announcement was released. News shortly followed that net revenue rose more than 55% year over year to $41.4 million. Access rights renewal revenue, an important metric for the long-term stability of the company's cash flows, hit $12 million -- 29% of net revenues. Adjusted EBITDA came in at $18.3 million, and non-GAAP diluted EPS hit $0.91, with more than $20.8 million in free cash flow.

For the full year, the company grew revenues by 43%, with $55.9 million in net income and $65 million in free cash flow.

While the industry is highly susceptible to technological disruption, the beauty of these businesses is the strong cash flows and relatively low valuations. Another VoIP player, Vonage , has had a phenomenal run lately in the markets as, despite extremely high marketing costs and somewhat troubling churn rates, the high-margin business generates very impressive cash flows.

At $65 million in FCF, MagicJack trades at a P/FCF multiple of just 4.3. EV/EBITDA comes in at a very attractive 5.12. How does that compare with major telecoms and VoIP competitors?

Shares on sale?
MagicJack operates in a very different business from traditional telecoms, but we can compare valuation metrics, as both businesses generate lots of cash. AT&T , for example, trades at an EV/EBITDA of 9.18. The company has many, many more avenues of revenue, yet operating margins are just over 10%. MagicJack's fourth-quarter operating margin was nearly 40%. Being a fraction of the size of a traditional telecom, the company has a much longer growth runway and can nimbly navigate the treacherous world of telephony.

Vonage is up more than 40% since July of last year, as the company had previously struggled to reconcile its high marketing spend with limited income-statement improvements. That turned around, though, and the ship has been smooth sailing since. Vonage currently trades at an EV/EBITDA of 4.7 and has a P/FCF of 5.66. Though they're both in the same neighborhood, in terms of valuation, I'm more compelled by MagicJack's current P/FCF, as cash flow remains the most compelling element to the VoIP business.

Even after today's high-single-digit bump in stock price, MagicJack's growth platform indicates a cheap stock for value-conscious investors.

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This article was originally published as Is MagicJack's Growth Selling for Cheap? on Fool.com

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