RBC’s top picks for U.S. small caps

We are pleased to present our latest RBC Capital Markets U.S. Small Cap Growth Idea list for tech. This is a quarterly list of our highest-conviction Small Cap Growth recommendations in that space. We feature companies with market capitalizations below US$5 billion (as of joining the list), and a minimum average daily trading value of US$10 million.

Some of RBC’s top picks for U.S. tech small caps

In software, we reiterate our conviction in JAMF Holdings Corp. (NASDAQ—JAMF) and Coursera Inc. (NYSE—COUR).

For Internet exposure, we recommend CarGurus Inc. (NASDAQ—CARG) and in advertising technology, Magnite Inc. (NASDAQ—MGNI). In payments, we maintain conviction in Flywire Corp. (NASDAQ—FLYW).

CarGurus

CarGurus is the largest car shopping site in the U.S. by traffic and leverages a differentiated, freemium-based approach to offer the most inventory of any shopping site. We are bullish on the stock on the back of bringing together CarGuru’s two-sided marketplace technology and CarGuru’s industry-leading audience to move down the funnel and extract greater economics from retail and wholesale car sales in the U.S.

Coursera

We like shares of Coursera for four primary reasons: We believe the multi-segmented approach (consumer, enterprise, higher education) creates a powerful flywheel effect and a sustainable economic moat. The consumer business, for example, creates brand awareness that has helped drive enterprise traction, while also serving as a funnel for the degree program.

Our due diligence on Coursera has been positive. We spoke to multiple Coursera customers as well as Coursera’s industry and education partners; partners praised Coursera for its reach and openness to innovation versus competitors and consumers praised Coursera for the breadth and depth of its content.

We believe the pandemic has created lasting tailwinds across all segments for Coursera, especially in higher education. We believe education has been irreversibly changed and we see room for more degrees (graduate and undergraduate) to be fully online.

Coursera has grown revenue rapidly, with a 30 per cent CAGR (compounded annual growth rate) from 2017 through 2021, while growth nearly doubled in 2020 versus 2019 as a result of the pandemic. Importantly, high growth seems sustainable, with the shift to digital learning still in early innings. We also see room for meaningful margin expansion and Coursera to reach per cent FCF (free cash flow) margins at scale, driven primarily by revenue mix-shift.

Flywire

We believe Flywire is uniquely positioned to solve various payment friction points embedded in its key verticals, which include education, health care, and travel. Growth in the company’s end markets, high retention rates, market share gains, new products, and expansion into additional verticals should support 30 per cent revenue CAGR over the next three years.

While the company is currently investing in the business to support this revenue growth, we believe it will turn adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) positive in fiscal 2023 and long-term adjusted EBITDA margins could approach 25 per cent with the revenue CAGR remaining around 30 per cent.

We believe Flywire’s success will be underpinned by several attributes, which in our opinion include: its focus on large and unique addressable markets; Flywire Advantage, its technology platform, setting itself apart from peers and resulting in high retention rates and new client wins; the competitive moat provided by Flywire’s proprietary global payment network (over a decade to build) and vertical-specific software; and the potential optionality the company has as it expands into B2B (business-to-business) payments.

JAMF Holdings

We see JAMF Holdings primary mission as being to help organizations succeed with Apple. As the standard in Apple enterprise management, we think JAMF is in a strong position to leverage the growing preference for Apple in the enterprise.

In addition to a TAM (total addressable market) that is likely to expand more quickly than previously expected in a post-COVID world, the company’s financial profile is unique given rapid growth and high profitability.

Apple innovation has transformed the technology landscape. What started off as a consumer revolution to Apple devices has steadily made its way to the enterprise.

As such, there has been a substantial share shift in operating system usage since 2009, with iOS
(i.e. Apple’s operating system) representing 32 per cent of Internet traffic in the U.S. and macOS
(i.e. Mac computer operating systems) 12 per cent, for a total of 43 per cent, which is significantly higher than Microsoft Windows operating system at 31 per cent. To put that into perspective, in 2009 Windows-based devices drove 88 per cent of Internet traffic versus iOS at one per cent and macOS at 10 per cent.

The company has provided a bottom-up estimate of US$10.3 billion TAM in 2019, growing at a CAGR of 17.8 per cent to US$23.4 billion by 2024. Potential growth catalysts include: A growing acceptance of Mac and iOS in the enterprise; Shifting demographics in the workforce to
Millennials; COVID changes everything as enterprises and employees re-think the value/importance of WFH (work-from-home); The launch of additional Apple products or ability to monetize the Apple Watch and; Vertical specific tailwinds in education from e-learning and healthcare from tele-health.

Magnite

Magnite is one of the largest independent sell-side advertising platforms (SSP) offering buyers and sellers of digital advertising a single partner for transacting globally across a variety of channels, formats, and auction types. Recently, the company has invested toward a full CTV (connected television) technology stack including the acquisition of SpotX.

In 2020, Magnite generated US$221.6 million in revenue (up 42 per cent year-over-year) while also delivering 19 per cent adjusted-EBITDA margins. Looking forward, we believe the company’s success will revolve around being able to successfully integrate CTV investments and expand market share within the fast-growing segment.

Matthew Hedberg, Daniel Perlin, Matthew Swanson, Rishi Jaluria, and Brad Erickson are RBC
Capital Markets equity analysts.

This is an edited version of an article that was originally published for subscribers in the September 30, 2022, issue of Investor’s Digest of Canada. You can profit from the award-winning advice subscribers receive regularly in Investor’s Digest of Canada.

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