Citron Exposes The Dirty Secrets Of J2 Global Inc (JCOM)! by Citron Research
Note to Readers:
Continued from part one... Q1 hedge fund letters, conference, scoops etc Abrams and his team want to understand the fundamental economics of every opportunity because, "It is easy to tell what has been, and it is easy to tell what is today, but the biggest deal for the investor is to . . . SORRY! Read More
Citron has spent considerable time and effort to prepare this story. We suggest you take your time, read the analysis and supporting documents, and make your own informed investing decision. The work is compelling, and we are confident in our conclusions. But read before you trade!
For years J2 Global (NASDAQ:JCOM) has been a darling of Wall Street and a nemesis for short sellers. The company has spun a high-tech story of “cloud computing”, digital media, and mergers and acquisitions. All the while, it is being funded by its legacy, consumer very-unfriendly eFax business.
That is the story they want you to hear.
The real story, exposed here for the first time, is a company spending a billion on a roll-up strategy with negative organic growth. J2 has been buying money-losing commoditized cloud computing companies, combining them with a non-performing digital media strategy to inflate its top line, as EBIDTA runs in place.
Why Has The Bull Case on eFax Finally Come to an End?
In this report, Citron will show in new disclosures contained in J2 Global’s 10-K, that the company’s core business has hit a wall. More importantly, the barrier to entry of their cash cow eFax business is gone as it finally comes off patent protection. This is the beginning of the endgame after the company spent years rolling up a near monopoly control of an industry in decline.
Citron analyzes all three of J2 Global’s businesses, providing a basis for a fair and optimistic sum of the parts analysis which supports our price target: $27.
The REAL story behind eFax and its Future
For years short sellers have called for the end of J2 Global by stating the fax machine and electronic faxes will soon go the way of the dial-up modem. This point is obvious by just observing the Google trends on “internet fax” and “eFax”:
BUT!!! What the bears underestimated was J2 Global’s ability to generate cash flow by dominating a business in decline.
To be fair, there is still enough business using fax-to-email to deem this business “Not Yet Dead”. While many have called eFax the worst part of their business, in reality it has been and remains the best part of their business.
While J2 Global does not disclose its utter dependence on eFax services for its bottom line profits, Citron has done the homework. A single line stands out in the just-filed 10-K (undisclosed in prior years):
We rely heavily on the revenue generated by our fax services.
Currently, a substantial portion of our revenue is fax-to-email related and constitutes 42% of our consolidated revenues.
To understand this story, it is pivotal to observe that J2 Global does not disclose a revenue breakdown by brand or service. It conflates eFax and a portfolio of copycat brands that offer the same service (including MyFax, SmartFax, MetroFax, RapidFax, Send2Fax, TrustFax, etc.) into its “Cloud Services Revenue” “segment” with other online utilities. Because we have reason to believe that all of these other “cloud computing” operations lose money, judging the quality of their acquisitions, and the performance of competitive businesses, we are left to conclude that 87% of j2’s operating income comes from fax related services.
Note to analysts:
“Don’t even bother opening your mouth unless you can publish a reliable estimate of how much of J2 Global’s net revenue is directly attributable to its fax-to-email services.” — Andrew Left, Editor, Citron Research
What the company and the analysts never discuss is the sustainability of the moat around this profit stream. So that’s where we begin.
J2 Global – Dirty Secret#1:
j2 fax-to-email strategy has been built on the importance of what is known as the “638 patent” which covers electronic faxing. Do not take it from us: here it is directly from Stanford Journal of Law in discussing the practices of J2 Global (page 290). Note this is an excerpt from a much larger criticism of the business ethics and practices of j2 from the perspective of patent trolling:
After spending a decade suing, then buying competitors who could have undercut pricing in a race to the bottom (which is “free”) j2 has hit a wall in the acquisition game at the same moment their patent protection is expiring.
Sept 30, 2016 and April 1, 2017…tick-tock, tick-tock
J2 Global makes a lot of noise about its portfolio of patents, many of which were acquired in a lawsuit-strewn acquisition path, whose true ownership is still being litigated.
At the core of this strategy, they rely specifically on a root U.S. patent 6208638, which they have taken to the courts numerous times to protect. Nowhere in its SEC filings, nor in the analysts’ ridiculous models, is the truth reflected that this key patent, the protective moat which protects over 40% of J2 Global’s gross revenues, and likely well over 75% of its net income, expires as protection against any and all competition in just 13 months.
Note: The other commonly referenced patent 6350066 in the above litigation links, expired last year. It covered storing incoming messages in a database. Obviously analysts did not pick up on that either.
In another case, filed in June 2013, J2 Global vs. EC Data Systems, which currently operates Faxage.com . This suit clearly asserts violation of 6020980 which covers “Facsimile Delivery to Electronic Mail”. This patent expires Sept 30, 2016, just 6 + months from today.
Examine j2’s patent disclosure page carefully. The root ‘638 patent is listed first; that’s the one that expires April 1, 2017. Of the 27 patents listed, 9 are already expired, and all but 4 will expire by 2019.
Dirty Secret #2 :
The only way j2 has been able to maintain the profitability of its fax-to-email business is through highly controversial and aggressive (if not fraudulent) billing practices. In proving this point we use as a source j2-owned PC Mag. While we can find many sources that publish public complaints about j2’s dubious billing policy, nothing is better than the company’s own “flagship” brand.
Despite eFax receiving an “excellent rating” and numerous “Editors Choice” awards from PC Mag, (here, here, and here – kind of like your mother telling you you’re good looking all 34 reviews by users express nothing but disdain, using words like: “scam”, “fraud”, “the worst” etc, etc. If you are an investor, click the link and go read every comment for yourself. http://www.pcmag.com/article2/0,2817,2415489,00.asp%23disqus_thread
Here are just two; the rest are all as bad or worse:
Rebecca Gaffney • 2 months ago
EFAX IS THE WORST – I had almost a carbon copy experience of Andro’s and everyone else’s. Their service was wonky and crappy between my iPhone and computer, and I cancelled it after 2 days. They charged me a month later anyway, and I sent them an email online asking them to cancel the account again. They did not, and I ending up calling them to make sure they cancelled the account and refunded my money. They were very rude about it – Megan and her supervisor Nick – and refused to refund my money, though they claim it’s cancelled. They are the worst and need to be put out of business. I agree about PC magazine – get it together, guys!
Andro Athan • 6 months ago
This is one of my worst experience, efax is not not unethical but a punch of liars.
I trusted them with my credit card details, tried the service once for my small company then realized it not right for me then cancelled the subscription in 2 days.
2 months after, they charged me for the subscription and after calling them and writing many emails, the answer is ‘NO REFUND POLICY’ even if you are unlawfully charged for a subscription that you never used. Be aware and be smart. efax experience is ‘easy to get in but difficult to let you go for any reason even if you are dissatisfied’. Decent people won’t work for such companies
Systematic entrapment of customers into recurring subscription fees explains J2 Global’s aggressive “investment” in controlling the space. They staunchly refuse to allow their customers phone number portability (only disclosed in very fine print on signup, and, ironically, a rule enforced on telecom providers but not them). You can see how J2 Global’s abysmal customer service serves its interests. Its customers are trapped by design; J2 Global has no incentive to offer more.
Note: Citron does not claim that J2 Global will lose its legacy business overnight, but asserts that Wall Street cannot avoid applying a proper multiple to a business marked by:
- negative organic growth
- a dying industry
- abusive and deceptive customer experience
- and most of all, imminent loss of intellectual property protection
See full report below.