By any measure Tuesday December 6 was an extraordinary day for Synchronoss Technologies’ shareholders and employees.
They woke up owning a stake in a company with a market capitalization above $2.2 billion, whose core software enabled consumers to activate, synchronize and store their mobile phone data.
By day’s end, however, Bridgewater, N.J.-based Synchronoss had purchased IntraLinks Holdings, an unprofitable data-room developer for almost twice its then share price and said that it had struck a deal to sell its legacy business, the mobile-phone activation unit, in two stages — 70% immediately and the 30% remainder over the course of the next year. Topping it off, Stephen Waldis, the company’s founder and chief executive, took the unusual move of stepping down to let Ronald Hovsepian, IntraLinks’ CEO, run the newly combined venture, though he’s remaining on the board of directors with the title of Executive Chairman.
Synchronoss marketed the effort as “Accelerating a Strategic Transformation“; investors just called their broker and sold, sending the stock price to $42.59 from $49 the day before, and erasing more than $290 million in market capitalization.
Waldis, on a February 8 conference call with analysts, heralded the arrival of Synchronoss 3.0, an era that he sees as rich with cross-selling opportunities to businesses (as opposed to retail phone activation), more revenue diversification and a focus on higher-margin, faster-growing businesses like so-called white-label cloud storage.
In the main, investors haven’t warmed up to this vision, with the market cap dropping another $550 million to about $1.36 billion since the big day.
Investor confidence couldn’t have been bolstered when the merger’s proxy agreement disclosed Waldis had spent over half of 2016 seeking to depart his job, with IntraLinks’ Hovsepian brushing off executive recruiters working for Synchronoss as far back as May. He became more receptive to Synchronoss when later overtures evolved towards buying IntraLinks, which given his 2.21 million share stake, led to an almost $28 million windfall (as laid out on page five of the company’s 2015 Proxy.)
Concern over management’s vision for the business may prove to be the least of shareholder concerns as Synchronoss’ own documents reveal there is a great deal the public hasn’t been told about key aspects of its so-called Strategic Transformation.
For example, in 2006 the parent company of Sequential Technology International, the Activation unit’s purchaser, was disclosed as a related party because Waldis and a group of his then-Synchronoss colleagues owned equity in it. Moreover, management’s comments about the reason for the sale, as well as the justification for the $146 million price tag, have been baffling.
Whatever the motivations behind the Activation unit’s sale, Synchronoss’ own filings suggest that Waldis’ friends are in a position where it’s nearly impossible for them to lose money; the company’s public shareholders can say no such thing.
Synchronoss’ public statements about the Activation unit’s buyer are incomplete, at best.
The Sequential Technology International portrayed in the company’s conference calls and press releases sounds like a standard corporate buyer, chosen after some consideration among a number of different options.
That’s not remotely the case.
To start, the Southern Investigative Reporting Foundation could not locate STI in any corporate registry or database — it’s a corporate shell, formed in early November, 2016 whose website was registered by John Methfessel, a former neighbor of Stephen Waldis and an early-stage Synchronoss investor.
The first indication that there was more to the STI story than brief mentions in opaque press-releases came from Stifel, Nicholas’ Tom Roderick, a research analyst who published a December 20 research note revealing that STI was a unit of Omniglobe International L.L.C. In his note, Roderick cited his own research, as well Synchronoss’ December 7 filings, as being helpful to his analysis.
It’s unclear, however, what the December 7 filings illuminated, since they don’t mention Omniglobe and only briefly reference STI as being “a new company.” The Southern Investigative Reporting Foundation tried to ask him but a Stifel spokeswoman said Roderick wouldn’t be made available for comment.
So what is Omniglobe International?
It’s a business process outsourcing company (often abbreviated to “BPO”) that handles non-essential tasks for Synchronoss’ Activation unit. Specifically, through offices in the Philippines and India, Omniglobe provides phone activation customer service for Synchronoss’ AT&T contract.
In its June 2006 initial public offering prospectus, Synchronoss disclosed that Omniglobe was a related party, a legal term of art that in this case means that four of its officers had an investment in Omniglobe, and would benefit financially from doing business with it. (As detailed on page 74 of the prospectus, then-CEO Waldis had a 12.23 percent “indirect equity interest in Omniglobe,” former chief financial officer Lawrence Irving and former chief technology officer David Berry both had 2.58 percent and current president and chief operating officer Robert Garcia had 1.29 percent.)
These investments were made through Rumson Hitters L.L.C., a Delaware holding company that in turn owned a piece of Omniglobe. For awhile it was money well-spent: Between March 2004 and June 30, 2006, according to page 74 of the prospectus, Waldis’ investment yielded $153,655 in distributions from Omniglobe.
But the relationship must have raised a red flag somewhere since the prospectus–which doesn’t elaborate on the matter–does note that as of June 30, 2006 other, undisclosed members of Rumson Hitters had bought out the four executives, and that no one then at the company had a stake in the holding company or Omniglobe.
(“Rumson Hitters” is an inside joke among the families of several of Synchronoss’ initial founders like Waldis and his fellow Seton University Alum Tom Miller–the phrase is used on Miller’s Facebook page–referencing the affluent N.J. riverside town of Rumson where Miller lives.)
Daniel Ives, Synchronoss’ vice-president of finance and development, told the Southern Investigative Reporting Foundation that Rumson Hitters was formed “to support the BPO business of Synchronoss” as it was getting started, prior to the IPO. He was emphatic that it has no ownership links to company management and should be viewed as “an unrelated third-party.”
He declined to name the owners of Rumson Hitters but speaking more generally about the sale to STI said, “I get it. This is a complex transaction and people have a lot of questions.”
Reached at his Potomac, Maryland home, Matharu confirmed to the Southern Investigative Reporting Foundation that Omniglobe was STI’s owner and that it had purchased a 70% stake in Synchronoss’ Activation unit. He said he expected to eventually complete the purchase for the balance of the unit “over the next year” with a loan from Goldman Sachs — Synchronoss’ longtime lead investment-banker and co-arranger on the $900 million term loan used to purchase Intralinks.
When questioned about Omniglobe’s ownership structure, Matharu said he had a 50% stake and that “the Rumson Hitters hold the other 50%.” According to their registration filings, both Omniglobe and Rumson Hitters were registered in Delaware on the same day, March 5, 2004.
“I’m reluctant to speak about [the Rumson Hitters] part of the ownership group because they had to restructure things a little after the [Synchronoss] IPO,” said Matharu. Pressed on what “restructure” meant in that context, he said there were “legal moves” but that the Rumson Hitters entity was “still owned by friends and family” of Synchronoss. He declined to elaborate on who the “friends and family” were, nor would he identify the current partners.
Matharu said that a lawyer named John Methfessel controlled the Rumson Hitter investment and that questions about it should be directed to him. (In the December 2006 press release quoted above, Methfessel is identified as the owner of a legal transcription service that outsourced business to Omniglobe.)
A longtime specialist in defending insurance companies, John Methfessel would seem an unlikely candidate to be at the center of such a labyrinth corporate transaction but per above, he has numerous connections to Stephen Waldis, including having been his next-door neighbor for several years in Lebanon, N.J.
Methfessel was a pre-IPO investor in Synchronoss (both personally and through Moses Venture Partners L.P., a fund run out of his law firm’s offices) and is on the board of the Waldis Family Foundation, along with the aforementioned Tom Miller, a former Synchronoss executive who is now STI’s Chief Strategy Officer. Both he and Miller are directors of Omniglobe International and a press release from last month referred to him as STI’s chairman.
Contacted at his office, Methfessel declined comment when asked about STI and the Rumson Hitter entity: “We’re a private company and I’m not going to answer any questions beyond what’s been announced.” (Miller did not return several phone calls and an email.)
Exactly what Synchronoss shareholders lost in the Activation unit sale was made clear in a December 22 filing where the unit’s pro-forma financials–what it now calls “the BPO business”–were broken out.
Through September 30, Synchronoss’ activation unit did $121.7 million in revenues and over $22.4 million in operating income, for an 18.4 percent operating margin and a 23.3 percent EBITDA (earnings before interest, taxes, depreciation and amortization) margin. While 2016 sales were flat, looked at over the past decade, they’ve grown at around a 15 percent annual clip and its biggest customer–AT&T is over three-fifths of unit revenues–has been with it since the company’s founding.
Going back in the company’s filings shows the same thing year after year: the Activation unit’s consistently profitable, bears little legal or regulatory risk, has manageable capital outlays and has a deep-pocketed primary customer with a need for the product.
Waldis didn’t see it that way, though. On conference calls in December and again in February, he dismissed the unit’s prospects out of hand and said it was “a lower growth business” and didn’t elaborate further. Ives, the Synchronoss VP, said the unit’s growth and margin prospects “were sluggish” but didn’t expand on this.
To be sure, owning an asset that isn’t going to grow is a problem for any manager–your revenues stay constant but costs and inflation usually increase over time–but there’s a catch: On page seven in the December 22 filing Synchronoss discloses that through September 30 it had allocated over $24 million in “general corporate overhead expenses” to the Activation unit — costs that would “remain with [Synchronoss.]”
In other words, the Activation unit’s true profitability is a good deal higher than what has been laid out in the company financials. Adding back those costs gives the Activation unit a 36 percent operating profit margin, and it implies that Synchronoss sold it for 2.75 times EBITDA, an astonishingly attractive purchase price for Omniglobe.
Synchronoss’ Ives disagrees with the view that the unit was sold cheaply: “We had major BPO company’s give us lower bids than [what Omniglobe paid],” and he said that “it was a specialized but competitive process” that obtained those bids.
“The level of investment needed [for an effective BPO operation] is significant,” Ives cautioned. “That’s a competitive space and we saw margins coming under pressure.”
The Southern Investigative Reporting Foundation made the observation to Ives that it seemed nearly impossible for the deal to work out poorly for the buyers, to which he replied, “We hired an investment-bank to deliver a fairness opinion and they presented one to the board of directors.” Asked to disclose the name of the bank and produce the opinion, he declined, noting only that it was a “brand name” bank. An educated guess would be Goldman Sachs, which advised Synchronoss on the IntraLinks acquisition and is touted as a “strategic partner” in recent filings.
Not only did STI get a great price, but the December 22 filing show it secured unusually attractive payment terms too.
To purchase 70 percent of the Activation unit, STI only put down a little over $17.33 million in cash upfront, along with $7.7 million in unspecified “contributed assets” and the $83 million balance in a note receivable. The 30 percent of the unit that STI hasn’t bought, representing $43.8 million in payment, is expected to be paid for sometime this year.
STI will also pay a licensing fee to Synchronoss for three years of $32 million — a figure that could increase if certain targets are met, said Ives.
“[The fee] isn’t [pure profit] for us since we’ve got ongoing expenses in software development and analytics offsetting those payments,” he acknowledged.
Per above, Omniglobe’s Matharu said that he expects to secure debt-financing this year through Goldman Sachs to complete the purchase and a glance at the Activation unit’s numbers suggests it shouldn’t be very difficult. If the unit’s revenues stay around $150 million and a 30 percent operating margin–to be conservative–is attainable for a new owner, then the $50 million in operating income would easily cover interest expense.
None of which answers why the Activation unit deal was structured in such a binary fashion — instead of delivering the agreed upon price in full, like a standard corporate asset sale, Omniglobe put down only $17.33 million in cash.
Synchronoss shareholders, who just took on $900 million in senior debt to purchase Intralinks, don’t appear to be fairly compensated for fronting Omniglobe most of the Activation unit’s significant operating profits and cash-flows on what amounts to a layaway plan.
Ives defended the unusual sales arrangement as a function of the role of AT&T plays in the Activation unit. “These are their customers we’re talking about and they said they wanted us to ensure a smooth transition, not just walk away,” said Ives.
“After the receivable is taken care of sometime in the next six months, we’ll have a lot more flexibility to get the best price for the 30% that remains.”