Jun 24, 2021
[11 min Read]
$SONO - SONOS is a leading sound brand that is known for delivering unparalleled sound experiences, beautiful designs, and simplicity. The SONOS system is easy to set-up in any room of your home and their software is constantly being updated to enhance their product and improve functionality.
SONOS' products include wireless and home theater speakers, their components, and accessories. Sonos is always looking for new ways to innovate their systems to increase functionality, improve their sound quality, and enrich their customer experience.
SONOS has partnered with many companies to provide services such as voice control, music streaming, internet radio, podcasts, and audiobooks to make using their speakers quicker and simpler.
Since SONOS was founded (in 2005) they have had 15 years of sustained revenue growth, selling their products through 3rd party retail stores, select e-Commerce stores, and their own website.
Recently, the COVID-19 pandemic, and the associated stay-at-home orders that have come from COVID have greatly helped the home theater audio industry.
Firstly, COVID caused all movie theaters to temporarily shut down, meaning that there were no new movies or screenings coming out. This caused many streaming services, and entertainment companies to make their new movies available in people's homes. As a result of this people were more inclined to spend some extra money to enhance their viewing experience, whether it be buying a better TV, better sound bar, or better seating, people were swilling to spend the extra money to improve their set-ups. This was good for SONOS as they provide home audio systems and soundbars that fit these needs.
Also, as a result of people spending more time at home, more people were inclined to spend money on upgrades to their home like a home theater. 82% of home theater integration companies reported that there were higher levels of interest for home theaters due to the pandemic. This is great news for companies like SONOS who provides sound systems for these theaters.
As a result of the pandemic, the home theater industry has been forecasted to grow at a CAGR of 14.6% over the next 6 years.
SONOS believes that their software is the foundation of their business and helps them to differentiate themselves form their competitors. But what makes their software so good?
These are just some of the innovations that SONOS has made, that help to improve al aspects of the listening experience. It is features like these that help SONOS differentiate themselves and capture the attention of potential customers.
SONOS has put forth a couple key factors and components of their strategy they plan to implement to continue growth. I was able to find these components in their SEC 10-K filing, I compiled the best 2 ideas out of the 5 they listed in the filing, which can be found below.
Currently, SONOS holds over 1,000 patents, and is in the application process for 100's more. These patents cover their technology, audio experiences, and other factors/aspects that are important to the SONOS' operation.
These patents came into play in January of 2020, when SONOS decided to take legal action against Alphabet Inc., and Google LLC. For patent infringement of 5 of SONOS' wireless audio patents. SONOS was able to win their lawsuit in Germany in Q1 2021 and reported this on their financial reports. By SONOS winning this injunction against Google, which may lead to Google's products being banned in Germany. This is a win; however, it is a small win in the grand scheme of things as there are plenty more lawsuits Internationally that are yet to have reached a verdict. This win is still significant as it displays the strength of SONOS' patent(s), and confirms SONOS' ability to win in court.
If SONOS can win some more of their lawsuits in important Geographic areas (like the USA), these court wins will be huge for them, and there will likely be a positive effect passed onto their share price.
In order to undergo my comparable analyses (seen later in this report), I had to find 4 other companies that I could compare to SONOS.
These companies have to operate in the same space, be of similar geography, be listed on the public markets, and be of similar market cap (not as important because there is not many audio stocks).
In an attempt to meet these criteria as closely as possible, I chose the following 4 companies to compare to SONOS: $SONY - Sony Group, $AVID - Avid Technology Inc., $DLB - Dolby Laboratories, and $HEAR - Turtle Beach Corp.
In order to value SONOS, I underwent a DCF model, and in this model, I used some information that I found myself, and from external sources. This section will highlight where I found this information from to give more credibility to the DCF model.
I was able to find SONOS' WACC through a website called “Finbox”. Finbox predicted that SONOS' WACC is 7.75%, which I used in my DCF model.
I was able to find this figure myself by taking SONOS' average annual growth rate of their normalized EBITDA. By doing this I arrived at a growth rate of 18.18%.
Interest Expense Decrease Rate:
To find this figure, I took the average decrease in SONOS' interest expend over the past 3 years. By doing this I arrived at a decrease rate of 32.96%.
I also found this figure through Finbox, who estimate that SONOS' effective tax rate for 2020 was 14%.
In order to properly value SONOS, I decided to undergo a DCF model, and 3 comparable analyses to contrast/compare the results that I achieved.
I conducted my DCF model using the information found above in the “valuation information” section of this report.
My DCF model concluded that SONOS has a fair value of $12.41/share, which would imply a 63.95% downside risk to this investment. However, there are a couple of reasons why this DCF is so low, and why it cannot be taken literally.
Firstly, the EBIT that I used for 2021 is their TTM EBIT. I used this because their 2020 EBIT was negative and their previous EBITs were sporadic and showed no cognisant pattern. This also made it hard to find a reliable CAGR for SONOS' EBIT.
Secondly, the tax rate may not be accurate. Usually when I am finding the effective tax rates, I look through the companies SEC 10-K filings, so I know that the tax rate is accurate. However, this information was not disclosed in SONOS' filings. As a result, I question the sources/legitimacy of the tax rate as estimated by Finbox.
By comparing SONOS' EV/Assets multiple to that of their public competitors (found above in the “competitors” section of this report) I found that SONOS' fair value is $42.08/share. This fair value implies an upside to such an investment of 22.18%. This contradicts the result found through the DCF model, so I decided to undergo more comparable analyses.
By comparing this multiple, I found that SONOS' fair value is $64.09/share, which implies an upside of 86.09%. This result is much higher than the result found through the previous comparable, so I decided to undergo a 3rd comparable to get a better idea of SONOS' true valuation.
By comparing SONOS' P/E ratio to their competitors, I found that their fair value sits around $31.14/share, which implies a downside risk of 9.58%. This is not consistent with the previous two results, so I decided to take the average result derived from each of the comparable analyses to find one fair value estimate.
By taking the average result of the 3 comparable analyses, I arrived at one, all-encompassing, comparable valuation of SONOS of $45.77/share. This implies that the upside to an investment into SONOS is roughly 32.90%
As mentioned previously, I am not putting too much consideration into the result achieved through the DCF model. Thus, my plan will be constructed primarily from the results achieved through the 3 comparable analyses.
I see an entrance into a position in SONOS between the $33.50 and $35 as a great buy. By buying between these prices, you are limiting the downside risk of this investment, and still have a 30%+ potential profit.
If the price falls below this $33.50 price target, I would wait until the price falls to $30.20 before I would consider entering a position.
I would consider selling my position in SONOS between $43-45. I chose these levels because the $43 level is the current average analyst price target for SONOS, and the $45 level is the level I achieved through my comparable analyses.
Buying in between $33.50 - $34.44 and selling between $44 - $45 would yield an upside between 31.34% - 34.33%.