Starboard Value has options to build value at webchat provider LivePerson

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Company: LivePerson Inc. (LPSN)

Business: LivePerson is a New York-based software company that was founded in 1995 by Robert LoCascio, the current CEO and chairman. The company was the preeminent webchat provider in the U.S., if not globally, with 35% of the market share and some of the largest companies and brands as clients including Home Depot, Delta Air Lines and Citibank. The company’s webchats provided users with the ability to chat with agents through portals. The company subsequently expanded into messaging through various communication platforms such as Google Messenger, WhatsApp and Apple Business Chat. The messaging saw many more benefits than the live chat – the asynchronous messaging reduced the company’s cost to serve, as agents can manage numerous messages versus needing to be one on one for the chats.

Stock Market Value: nearly $1.6B ($22.00 per share)

Activist: Starboard Value

Percentage Ownership: 9.66%

Average Cost: $24.18

Activist Commentary: Starboard is a very successful activist investor and has extensive experience helping companies focus on operational efficiency and margin improvement. Starboard also has a successful track record in the information technology sector. In 46 prior engagements, it has a return of 41.17% versus 16.25% for the S&P 500 over the same period.

What’s Happening?

On Feb. 25, Starboard sent a letter to the company nominating the following four director candidates for election to the company’s board at the 2022 annual meeting: (i) Peter A. Feld, managing member, portfolio manager and the head of research at Starboard; (ii) John R. McCormack, an executive partner at Siris Capital Group, a private equity firm that invests in mission-critical, mature tech & telecom businesses at strategic crossroads; (iii) Vanessa Pegueros, former chief trust and security officer of Onelogin, the identity platform for secure, scalable and smart experiences that connect people to technology, and former vice president and chief information security officer of DocuSign (DOCU), the world’s leading way to electronically sign and manage contracts; and (iv) Yael Zheng, professional director and former chief marketing officer of Holdings (BILL), a provider of cloud-based software that automates back-office financial operations for small and midsize businesses, and former chief marketing officer at Tintri, a virtualization-focused storage company.

Behind the Scenes:

The company has a great business with highly recurring revenue, as customers continue to transition customer service and support toward digital as opposed to voice. However, LivePerson has been going through some rough years despite doing the right thing by expanding into messaging from chat. In 2015, the company began de-emphasizing the legacy chat business to focus on the newer messaging platforms, resulting in two years of declining revenue in 2016 and 2017. This caused the stock to dip.

In 2018 and 2019, LivePerson said it would be in hyper growth mode as it burned off the legacy business. After growing 18% in 2019, the pandemic occurred and became a massive accelerant for the business. The company saw a large expansion within its current customer base and was able to convert new accounts. This brought the stock’s closing price as high as $68.43 on Sept. 23, 2021. However, as Covid slowed down, so did LivePerson’s growth. When the company recently announced its 2021 fourth-quarter results, the stock fell nearly 26% in just one day. Since the peak of Covid, revenue is still growing but not nearly as fast as it did during the pandemic with the company forecasting 18% growth for 2022 (of which 13% is organic). This led to the company’s stock falling and closing at $18.10 on Feb. 25, 2022.

LivePerson still has a good business with highly recurring revenue in a hot and growing market, but it is not delivering on the hyper growth it had promised. Part of the reason it has not been profitable is because the company is spending a huge amount on R&D trying to augment its business by adding chatbots and AI. Since 2019, R&D spend has increased by 93%. Last year, the company spent $158 million (33% of revenue) on R&D. Moreover, the company has been spending a lot of money to spur growth, hiring away star sales manager Tony Owens from Salesforce to lead LivePerson’s field operations and committing to increasing from 75 sales reps in 2021 to 200 by the end of 2022. They recently halted that expansion at 140.

As we usually see in Starboard situations, there are multiple paths to value creation, both requiring better management oversight and a more disciplined operational strategy. As a standalone entity, there are opportunities to improve growth and margins. Technology companies like this generally have a rule of 40 – that is, a combination of growth and operating margins should exceed 40%. With 13% organic growth and negative operating margins, there is certainly room for improvement in both areas. This is an area in which Starboard has extensive experience in helping companies optimize growth and margins from a board level. LivePerson certainly could use that.

We have seen this many times before in activism – a company built by a brilliant visionary but who may not be the right person to be the public company CEO at this point in its life cycle. Starboard would not make a determination like that until several meetings with the board and the CEO and a deep analysis and consideration. However, despite Robert LoCascio being the longest-tenured CEO of a company listed on the Nasdaq – at 27 years – there has been incredible turnover in senior management, with the company going through three CTOs, three CFOs and three COOs over the last five years. Moreover, the board looks more like a club than an independent board that will hold management accountable – the directors other than LoCascio have served for an average of 10 years. The company’s antiquated corporate governance policies evidence more of a fiefdom than a democracy – staggered board, combined CEO/Chairman role and plurality voting in uncontested elections. However, Starboard has had significant experience with founder-led companies (Marvell, Mellanox, Papa John’s) and is the perfect activist for this situation.

It is rare to see Starboard come out with nominations in their initial 13D filing. They clearly did this to preserve their options as the nominating deadline was Feb. 25, and this certainly should not be viewed as an acrimonious situation or that they have already met with management and are at an impasse. In fact, Starboard had bought its entire position in the last two months, so the firm is likely at the very beginning of its evaluation and will need time with management to determine what path to take. Additionally, Starboard nominated more directors than seats up for election in 2022 also to preserve their rights if the company decides to add any last-minute directors.

Any of the four Starboard directors would be value-added directors to this board. Further, the board is small enough (seven directors) that even three Starboard directors could be added in a settlement without the board becoming too unwieldy at ten directors. That would certainly be preferable to the incumbent board than losing a proxy fight, in which Starboard could get three of seven seats. If Starboard does have to resort to a proxy fight, it will be doing so with a shareholder base that has become increasingly frustrated with management and performance. This was somewhat evidenced at last year’s annual meeting where Kevin Lavan, the second longest-tenured director after LoCascio, with a 22-year term, received 21% withhold votes.

Another possible outcome here to head off a proxy fight is a sale of LivePerson. When an activist engages with a company, it gets the attention of private equity and potential strategic investors. This is a company with a great business and an incredibly valuable asset – one of the largest catalogues of written conversations. This is extremely valuable as a training data set for any company that is developing artificial intelligence or machine learning. There are certainly some strategic firms out there that would be interested in that.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments. LivePerson is owned in the fund.