Red Hat Acquisition & Couchbase Valuation: What's the Connection?

Couchbase IPO Filing: An Overview

The surge in Initial Public Offerings (IPOs) that characterized 2021 has persisted, with Couchbase, a NoSQL database provider, recently submitting its registration statement. The company secured substantial funding during its private stages, making its upcoming public listing a significant event for various private equity firms and venture capitalists.

Valuation and Fundraising History

Data from PitchBook indicates that Couchbase’s most recent valuation reached $580 million following a $105 million funding round in May 2020. Despite a considerable history of fundraising activities, the company is not currently classified as a unicorn prior to its market debut, based on available information.

Analyzing Couchbase’s Potential

An assessment of whether Couchbase will achieve unicorn status upon pricing and commencement of trading is underway. To facilitate this evaluation, a detailed examination of the company’s business model and financial results has been conducted.

This analysis aims to provide a clearer understanding of Couchbase and identify relevant market comparisons.

Key Areas of Investigation

• Business Model: Understanding how Couchbase generates revenue and its competitive advantages.
• Financial Performance: Reviewing key metrics such as revenue growth, profitability, and cash flow.
• Market Comps: Identifying similar companies to benchmark Couchbase’s valuation.

The goal is to determine the company’s potential for growth and its position within the broader database market.

The Couchbase S-1 Filing

The Couchbase S-1 document outlines the business of a technology company specializing in database solutions. Specifically, Couchbase provides database technology that combines the advantages of NoSQL databases – described by the company as “schema flexibility” – with the familiar querying capabilities of SQL.

Couchbase’s software is designed for versatile deployment, functioning across public cloud platforms, hybrid cloud environments, and traditional on-premise infrastructure. The company primarily serves large enterprises, having secured 541 customers by the end of fiscal year 2021, generating $107.8 million in annual recurring revenue (ARR).

Revenue Streams

Couchbase categorizes its revenue into two primary segments. The first is subscription revenue, encompassing software licenses and associated “support and other” services. This latter component is defined as “post-contract support” (PCS), a comprehensive package including support, bug fixes, and access to software updates and upgrades throughout the contract duration.

The second revenue stream is services, which is a more straightforward offering and typically carries a lower profit margin compared to subscription products.

Examining the company’s financial performance, excluding costs related to dividends on convertible preferred stock from its latest investment, reveals the following aggregate results:

A significant portion of Couchbase’s income is derived from its PCS offerings, a common characteristic among software companies with an open-source foundation. Red Hat’s final earnings report as a publicly traded entity demonstrated a similar distribution between subscription and services revenue. We will revisit Red Hat later, as its acquisition by IBM may influence market perceptions of Couchbase’s potential valuation.

Growth and Financial Metrics

Couchbase experienced a 25% growth rate from fiscal year 2020 to fiscal year 2021, its most recent complete fiscal periods. More recently, in its latest quarterly results, the company’s growth slowed to 21%. Analyzing ARR, the company achieved a 22% increase in annual recurring revenue in both fiscal year 2021 and its most recent quarter.

This growth, however, has been accompanied by increasing net losses calculated using Generally Accepted Accounting Principles (GAAP). Furthermore, the company’s gross margins have seen a slight decline, moving from 90% in fiscal year 2020 to 89% in fiscal year 2021, and remaining flat at 88% in the most recent quarter on a year-over-year basis.

Positively, the deterioration in operating cash flow experienced during the previous two fiscal years – with negative operating cash flow increasing from -$30.3 million to -$33.1 million – reversed in the most recent quarter. For the three months ending April 30, 2021, Couchbase’s operating cash consumption was reduced to $3.2 million, down from $6.1 million in the same quarter of the previous year.

Couchbase currently operates at a loss because its operating expenses exceed its revenue, and even its gross profit. This is a typical strategy for growth-oriented technology businesses. The high-margin, recurring nature of Couchbase’s revenue makes it valuable, and investing cash to acquire this revenue is a common practice.

The key consideration for investors will be balancing Couchbase’s growth rate against the rate of its losses. The competitive landscape, featuring companies like MongoDB, and NoSQL offerings from major cloud providers such as Microsoft and Amazon, will also be a significant factor.

Returning to the topic of Red Hat…

Determining Value: A Look at Couchbase

IBM acquired Red Hat for approximately $34 billion. The company had recently reported $934 million in revenue, representing a 15% increase compared to the previous year. This acquisition valued the prominent Linux provider – known for its combination of open-source software, proprietary code, and support services – at roughly 9 times its annual recurring revenue.

Applying this same ratio, Couchbase’s valuation could be around $900 million.

While a direct comparison between Red Hat and Couchbase isn't flawless, given the passage of time since 2019 and differences in scale and business models, Red Hat provides a useful benchmark.

It suggests Couchbase has the potential to exceed its previous private valuation when it enters the public market.

A doubling of Couchbase’s valuation is possible if investors prioritize its faster growth rate over concerns regarding its historical cash usage and increasing net losses.

Further details will become available upon pricing of the initial public offering.