June Newsletter – Commentary

Long Struggling PNI Digital Media Wins the Lottery Through Acquisition by Staples

This month we take a look at Staples’ acquisition of PNI Digital Media. Any time a company receives an offer from an acquirer who is willing to pay a premium to the current market price – and that offer is accepted by shareholders – it’s time to celebrate. However, we often forget the hard work and the trials and tribulations that companies endure prior to getting to the liquidity event.

To some degree PNI’s challenges are a good illustration of the bobbing and weaving, pivoting and restructuring, and real-time paths to liquidity that are often the reality of building a technology company from scratch. The transaction should be seen as a win for long suffering PNI shareholders; a huge win for investors who participated in the December 2013 Private Placement at $1.05; and a win for the brokers of the December 2013 financing who probably realized a fee of just over a 9% (commission and warrants exercisable). Furthermore, this transaction represents a significant accomplishment for Kyle Hall and certain members of his management team who stuck it out to stick-handle PNI to a liquidity event.

On May 5th, Vancouver-based PNI Digital Media (PN-T) announced that Staples Inc. (Nasdaq: SPLS) had agreed to acquire PNI for CDN$1.70 per share, representing a net equity value of approximately CDN$73.9 million and a 28.9% premium over the trailing 30-day volume weighted average price of PNI shares. This is a considerable accomplishment given that PNI’s shares were trading at $0.27 on June 4th, 2013.

Trailing 12 Month PNI Digital Media Stock Price:

Certainly, from a trailing 12-month perspective, PNI shareholders have to be pretty happy with the Staples acquisition. But, looking at this Company from a longer-term perspective, we know that over $43 million had been invested in the Company; it acquired two companies in the UK and one in the US; it had one of its divisions file for Chapter 7 protection in 2001; wrote off over $1 million in intangibles; settled litigation in May 2014 for $5.2 million; as of March 31, 2014, had an accumulated deficit of over $85 million; and has continued to generate losses.

PNI Digital Media Revenue and Net Income 2009 to 2013:

YE 09/30 ($US 000’s) 2013 2012 2011 2010 2009
Revenue 20,899 22,712 23,686 25,356 24,446
Net Income (7,121) (4,293) 1,073 6,341 (2,422)

All in all, the acquisition by Staples is like winning the lottery. There is very little reason to believe that PNI was going to experience a substantial break-out in revenue and finally become consistently profitable. Going forward, PNI is expected to continue to operate as a separate division of Staples and hopefully will see substantial benefits from being part of the Staples organization.

Incorporated in December 1995 as InMedia Presentations and renamed in 1999 to PhotoChannel Networks, the Company was initially positioned as an e-commerce company building a web-based photo-sharing community and printing platform that looked to take advantage of the immense growth in digital photography and the possibility of distributed printing. Unfortunately, the Company failed to live up to early promises set by management and within a short period of time found itself competing with more aggressive upstarts such as Shutterfly and Ofoto (both launched in December 1999), Photoaccess.com, and Snapfish (launched in 2000, acquired by HP in 2005).

Renamed PNI Digital Media in 2006, the Company evolved its business model to generate and transact personalized content orders on behalf of the world’s largest retailers via proprietary online, kiosk, and mobile software. The software platform allows leading retailers to offer photo prints, personalized photo books and photo calendars, wedding invitations, greeting cards, and business cards, all produced on demand and ready for pick up in as little as one hour. This is the Company and business model that Staples acquired.

Let’s take a look at some of the key events in the history of PNI:

  • May 2000: Private placement of $15,000,000 consisting of 15 million special warrants at $1.00
  • November 2001: Issued 26.6 common shares and 24.9 warrants at $0.10 each for proceeds of $2,657,638
  • November 2001: US subsidiary, PhotoChannel Inc., filed for Chapter 7 of the United States Bankruptcy Code
  • March 2007: Completed a private placement for ~US$15 million at US$3.40 per unit
  • July 2007: Acquired Pixology plc. for $18,225,000. Pixology had FY2006 revenues of $11.4 million and net income of ~$100,000, but had lost one of its major customers during 2006 and was expecting to lose between £1.35 and £1.65 million
  • August 2007: Completed secondary offering of 9,287,735 or about 24% of the Company’s common shares, with sellers appearing to be primarily brokers and service providers or employees of same
  • March 2009: Acquired UK-based WorksMedia Limited for $2.1 million in cash and 750,000 common shares, both paid in installments
  • Fiscal 2012: PNI recognized an impairment loss of $540,736 on previously capitalized internal use software
  • April 2013: Completed acquisition of Austin, Texas-based QS Quarterhouse Software, at a cost of $500,000 plus up to $500,000 in additional consideration
  • Fiscal 2013: PNI recorded goodwill impairment of $594,851 on the write-down of its European cash-generating unit
  • Sept 2013: Customers included Costco USA, Sam’s Clubs USA, Walgreens, CVS, Tesco, and Fred Meyer
  • Fiscal 2013: Four (4) customers represented $19,113,626 or 91% of total revenue
  • December 2013: PNI raised $7,474,633 million through the issue of 7,119,650 shares at $1.05
  • May 5, 2014: Company announced that it has settled its dispute with Bloom Stationers LLC for US$5.22 million
  • May 5, 2014: PNI announced that Staples Inc. (Nasdaq: SPLS) has agreed to acquire PNI for CDN$1.70 per share or approximately CDN$73.9 million

So what can we learn from this story?

  • The Company’s timing in launching its photo-sharing platform was timely in that it managed to raise $15 million at a time when its product offering was not even fully tested. Companies with an internet-focused story were still a hot commodity in mid-1999.
  • Being early in a market does not guarantee success. As with many good ideas, there are other entrepreneurs who are working on the same or similar ideas as well.
  • Changing business models or pivoting is probably more the norm than the exception.
  • In this case, the ability to tap the public markets for capital and use PNI shares as currency worked out. Given the Company’s long-term performance, it’s highly doubtful that PNI would have been able to complete multiple rounds of financing from private Canadian sources. More often than not, microcap Canadian public companies simply languish as investors tire of waiting for the promised story to develop and move on.

  • Once the two or three market leaders emerge, remaining competitors struggle to stay alive. For example, by February 2000 Shutterfly had raised two rounds of financing totaling US$38 million, eventually raised almost $90 million, and went on to make the $333 million acquisition of Tiny Prints in 2011.
  • It can take a long time to extract value from a business; two or three-year-old companies acquired at sky-high valuations are the exceptions, not the norm.
  • Large strategic acquirers may be willing to pay premium prices to acquire a business that helps to offset stagnant growth. Staples’ stagnating revenues and declining share price made PNI a pretty attractive acquisition.

Staples Five Year Stock Performance: