Cracking Open The Cantaloupe

Believe it or not, the vending machine (a.k.a. unattended retail) industry is undergoing a massive evolution, which is shifting the fortunes of vendor machine vendors, operators, and companies that sell into the industry.

Among publicly-traded companies, Cantaloupe Inc. (CTLP) is the most promising candidate I have encountered. Their investor presentation can be found online.

When you use a vending machine, the payment mechanism (coin slot, cash lot, credit card slot, NFC reader) is an independent part of the machine. CTLP is the U.S. market share leader for those payment mechanisms, with 20% share of the total installed base. If you’ve used a vending machine, there’s a good chance you’ve put money in CTLP’s pockets (they collect fees on every transaction).

CTLP also provides software to help manage and optimize vending machine operations (like SAP and Oracle provide to help run large corporations). Their offering (dubbed the Seed platform) is essentially the backbone for running an unattended retail operation. It helps with inventory planning, warehouse logistics, product assortment, pricing, etc.

Arguably the best part of the product is the dynamic delivery routing which provides the ability to rapidly change routes and do that in a most efficient way. A typical operator can be driving 15 to 25 routes. CTLP will reduce that down to somewhere between 12 and 18, which drives savings of 15% to 35% on the efficiency side (and closer to the high end of that, as labor and gas prices rise).

They also help by showing which product should be in the vending machines, how they should be allocated in the vending machine, and how often to service it.

Also, they recently released an updated handheld version for the warehouse which has gotten universally great feedback from the customer base on its ability to accelerate inventory reconciliation, replacing old Windows devices that have been out there for a long time.

The most important thing to realize is that CTLP is continually developing and adding new functionality to their all-in-one feature set. Seed Warehouse was released in March, which closely followed the AI-enabled merchandising offering they added via a partnership with privately-held Hivery and remote price changing functionality (which is gaining momentum due to the frequent price changes required in this inflationary environment).

Bringing it down, CTLP does 2 things for vending machine operators. One is to help grow revenue. When you change from cash only to having a credit card device, sales go up 20% to 25% in almost all cases, even in low volume areas.

On the cost side, CTLP saves customers the aforementioned 15% to 35% by making the machines run more efficiently. Their software helps operators run their operation from the warehouse all the way through the sale of product, along with the servicing of vending machines.

Inventory management is a critical piece of the value proposition. You want inventory delivered to the right location at the right time — not too soon, not too late. You don’t want stock outs, but you don’t want personnel visiting each machine every day. 

CTLP has an aggressive dynamic routing system and a number of functions to help with merchandising, so you’re at the right place with the right product at the right time for what the consumer ultimately wants. They also enable remote price changes and assortment / price optimization.

In today’s inflationary environment, prices are changing constantly. In a typical vending machine, there may be 30 or 40 coils. Imagine having to change the price in every one of those frequently. Not very efficient operation compared to the remote price change software module which CTLP released in the last month.

FYI, CTLP‘s largest customers say they lose between $500,000 and $750,000 a year just from having the wrong price.

The new module streamlines things like surge pricing around high-value type of activities. For example, if a big show is taking place, the optimal prices for maximizing profits may be higher at unattended retail locations for that event, but lower at other times.

CEO Sean Feeney joined the company 2 years ago. The company had gotten itself into a little bit of trouble. Feeney (who has good industry experience when it comes to payments, having worked at CheckFree, where they did online bill payment) came in as part of a proxy battle led by Hudson Executive Capital.

As a result of that battle, the entire management team was let go on Feeney’s first day (because they needed to get back in the good graces of the SEC). They had an SEC and DOJ investigation into both the company and several of the individuals that previously led it.

As part of the restructuring, they rebranded the company from USA Technologies to Cantaloupe (the name of the software company they acquired not too long ago) to prepare the company for international expansion. They also focused the business on that subscription / software part of the business, where they make the most margin.

Investments in integrating that acquisition and the business operations will give them operating leverage as they go forward. 

They had outside consultants who were getting paid millions of dollars just to close the books on a quarterly basis. They’re now doing that monthly via NetSuite. They’ve completed their back office integration and continue to automate various business processes.

They also strengthened the balance sheet with the help of JPMorgan, raising about $50 million in a Feb 2022 PIPE. They now have about $70 million in cash and have done M&A to move into new markets.

They acquired a company called Yoke, which took them into the fast expanding micro market part of convenience industries. And we’ve begun to work on expanding internationally. They now have a person in Latin America and Mexico. They’ve hired people in Europe and are beginning to internationalize the software product, which is how they’ll go into those markets. So a lot has been accomplished over the past 2 years.

Growth was over 20% last year, propelling CTLP above the $200 million mark. Growth should be around 15% going forward. In the near-term, CTLP will benefit from 4G upgrades, as 3G support reaches end-of-life later this year.

On the profit side, adjusted EBITDA is around 10%, which means they’ve rapidly gone from being a cash burner to generating positive adj’d EBITDA and returning to growth. This is impressive considering that white-collar offices are still dark. Even where you’d think offices have gotten back up and running, it’s only 2 days a week on average. So there’s plenty of upside from here.

Overall, they’ve already driven transaction revenues and volumes to levels well-above where they were pre-pandemic… and the last 3 quarters have seen record transactions.

When you look at it in the macro trends, unattended retail is exploding. For CTLP, inflation is a tailwind (because some revs are collected as a percent of sales) and higher wages incentivizes organizations to automate and optimize operations.

There’s hardly anywhere you go nowadays where you don’t see a kiosk or some sort of unattended payment device. And they are right in the middle of that with over 1 million endpoints already out there and growing substantially. And while people look at the vending industry as an old blue-collar industry, there is so much new innovation, investors need to take notice.

They recently came from the biggest trade show of the year and saw a large number of new vending machines. The traditional coil vending machine is going to go away over the next few years and the new level of technology is only going to grow.

We’re going to see a lot of items sold, well beyond traditional soft drinks and snacks. Examples include coffee, lottery tickets, and sandwiches. Also, there are operators setting up empty storefronts in certain cities & micro markets with just a payment device and software.

Looking at the broader market, CTLP is dominant in what they do, but a relatively small player, making them a prime candidate to be acquired.

The Seed platform generates somewhere between $3 and $5 on average (depending on the size of the consumer) per device per month. When you add modules, like remote pricing (at somewhere between $1 and $2) ARPU can rise rapidly. The ultimate goal is to double ARPU over the next 3 to 4 years. Of course, if successful, the operating margins on that will be spectacular.

On the transaction side of the business, they recognize that on a gross basis. As for the hardware part of the business, they strive to be breakeven or slightly profitable (to lock customers in & reap the rewards of their software offerings, which generate 80% to 85% gross margins). Typical razor to sell razor blades.

During the pandemic, when transactions were way down, gross margins were driven up by the software business. Transactions generate the most revenue, but they believe that they can grow the software line into the mid-teens and ultimately the 20% range over the next 2 or 3 years.

Expanding revenue on the 1.1 million ePort devices they currently have installed is the key. The biggest driver of that growth is signing large new customers. They signed one last quarter — Buffalo Rock in North Carolina, a large Pepsi bottler which services the Southeast.

The acquisition of Yoke can take CTLP beyond the vending part of their business into other unattended spaces, including things like air and vacuum machines at gas stations and EV charging.

FYI, Cantaloupe ONE, a new product offering, was launched in March. It’s a Platform as a Service (PaaS) designed to help customers future proof their machines (because technological advances have been more rapid of late). Hardware, software, etc., on a subscription basis.

In the vending machine space there is an upgrade cycle from 3G to 4G (not a typo — because vending machines use older telecom services) and EMV. 4G is a new spectrum and provides more bandwidth, security, etc. EMV is a payment method based on a technical standard for smart payment cards and for payment terminals and automated teller machines which can accept them. EMV stands for “Europay, Mastercard, and Visa”, the three companies that created the standard.

They’ve already sold over 200 customers and it fits very well in the SMB part of the market (larger operators would prefer to buy and get the depreciation).

They hired a new head of revenue with great international experience in January. He ran international operations for several years at VeriFone. They’re now working on internationalizing the product to go after that opportunity, which should be generating revenue in early 2023.

Bottom Line: With an increased focus on monetizing their installed base via high-margin software, I believe that CTLP’s relatively new management team will deliver accelerating operating margins. This will lead to commensurately increasing EPS… and therefore valuation (see bottom line below):

Accordingly, my Risk/Reward Chart looks like this (updated Dec 14, 2022):

So, this year’s insider buying (see below) should come as no surprise.

FYI, CTLPP had an intrinsic value of $49.70 on Feb 2, 2022… and that grows by $0.75 every 6-months (on February 1 and August 1 of each year)… and upon acquisition (which the management team desires), CTLPP shareholders will instantly get paid the full intrinsic value… making the current share price one of the best no-risk bargains I can find anywhere.

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