Zix CorporationNovember 20, 2014

Efe Faydali, Fan Fei, Jeffrey Li

Agenda1. Introduction2. Macroeconomic Review3. Relevant Stock Market Prospects4. Company Review 5. Financial Analysis6. Financial Projection7. Application of Valuation Methodologies8. Recommendation

Position • Purchased 2000 shares @ $2.89/share on

April 17, 2012• Basic cost: $5,780• Current: 2000 shares @ $3.25/share on

November 19, 2014• Market value: $6,500 • Holding period : 19 months• Gain: 12.46%• Annualized return: 7.82%

Source: Yahoo Finance

Company ReviewA Leader in Email Data Protection • Founded in 1998 as an email encryption company • Nearly 192 employees in the US and Canada• Committed to innovative, easy-to-use email

encryption• Expanded into data loss prevention (DLP) with

email-specific solution• Innovator in the bring-your-own-device (BYOD)

market

Source: Zix Corporation Investor Relations, page 2

Revenue Origination

Source: Zix Corporation Investor Relations, page 30

Macroeconomic Outlook

BYOD - “Bring your own device”

• Strong trend & Growing fast • 81% of Employees use at least one personal device

for business use in 2012.• The United States, currently the largest BYOD market

with 71 million BYOD devices, will have 108 million by 2016, or a 52% growing rate.

• Security risk• 90% of users disabled auto-lock for tablets and 75%

of users disabled auto-lock smartphones• 71% of businesses that permitted BYOD had NO

specific security or support policies Sources: akuity, 2012; Cisco, 2013; ITIC, 2012

Macroeconomic Outlook

Regulatory drivers

• The Health Insurance Portability and Accountability Act (HIPAA)

• Health Information Technology for Economic and Clinical Health Act (the “HITECH Act”)

• Gramm-Leach-Bliley Act (“GLBA”)

• State specific email encryption lawSource:U.S. Department of Health & Human Services

Industry AnalysisU.S. Software Market Value Forecast

Source: Marketline

Industry Porter’s 5 Forces

• Bargaining Power of Suppliers: NA

• Bargaining Power of Buyers: Moderate to high

• Rivalry: High

• Threat of Substitutes: Low

• Threat of New Entrants: High

Management’s Strategy

• Be a leader and innovator in email data security

• Maintain Ease of Use

• Launch new products to establish the reputation in email data security

• Expand customer reach through a network of resellers and other distribution partners

Source: Zix 2013 Annual Report, page 3

Company ProductsEmail Encryption Services• Enables the secure exchange of email including

sensitive information • Allows an enterprise to use policy-driven rules• Software-as-a-Service (“SaaS”) solution• Customers pay an annual service subscription

feeSender

s

Receivers

ZixGateway

ZixMail

ZixGateway

ZixAccessZixPort

ZixDirect

Technology-ZixDirectory-Best Method of Delivery-ZixData Center-ZixResearch Center

Source: Zix 2013 10-K, page 3

Easy-of-UseHow Zix Different From Other Solutions

Source: Zix Corporation Investor Presentation, page 9-10

New-launched Products

Email Data Loss Prevention – ZixDLPMarch 29, 2013• Providing a straightforward DLP approach with a

focus strictly on email • Addresses business’s greatest source of data risk• Decreases the complexity and cost

• Reduces deployment timelines from month to hours

• Easy-to-use for both employees and administrators

Source: Zix 2013 10-K, page 3

New-launched Products

BYOD – ZixOneSeptember 3, 2013• Enables Android or IOS mobile devices to view

remotely-stored corporate email and to interact with that data

• Never allows emails to be stored on the device, where it might be subjected to exposure from theft or loss of the device

• Not requires employees to relinquish device control or personal privacy to their employer

Source: Zix 2013 10-K, page 3

Why ZixOneMDM – Mobile Device Management• Require individual users to permit their employer

access to and control over personally-owned smartphones and tablet computers

• Create user concerns about loss of control and privacy of their devices

ZixOne – Delivering a view of corporate email on mobile devices in the cloud only

Source: Zix Corporation Investor Relations, page 22-24

SWOT Analysis• Strengths• Easy-of-use• Software-as-a-Service (“SaaS”)• A more effective BYOD solution

protecting business data• High defer tax credit

• Weaknesses• Limited resources • Forced to exit business

segments in the past few years

• Opportunities• Cisco ending IronPort

Encryption Appliance • Increased demand on security

of data and communication • Strong trend of BYOD

• Threats• Industry consolidation (M&A,

strategic alliance)• Rapid technology changes• The reliability and sustainability

of data center• The relationships with third-

party distributors

Financial Analysis – Ratio

Liquidity Ratios

  2010A 2011A 2012A 2013A

Current Ratio 1.54  1.29  1.32  1.56 

Quick Ratio 1.54  1.29  1.32  1.56 

Cash to Total Asset  37% 27% 28% 30%

Profitability Ratios  2010A 2011A 2012A 2013ARevenue Growth Rate 25.22% 15.36% 13.66% 11.03%Gross Margin 80.44% 81.10% 82.45% 84.18%Operating Margin 15.79% 27.96% 20.88% 19.62%ROA 7.81% 13.75% 10.93% 10.42%ROE (With Tax Benefit) 86.8% 39.0% 18.0% 15.8%ROE (Without Tax Benefit) 11.1% 18.5% 14.8% 14.3%

Financial Analysis – Ratio

DuPont Analysis  2010A 2011A 2012A 2013ATax Burden  7.80 2.11 1.22 1.11Interest Burden 1.01 1.01 1.01 1.01Operating Profit Margin 16% 28% 21% 19%Asset Turnover 0.49 0.49 0.52 0.53Leverage TA/ TE 1.43 1.34 1.35 1.37ROE 86.8% 39.0% 18.0% 15.8%ROE (Without Tax Benefit) 11.1% 18.5% 14.8% 14.3%

Greenblatt  2010A 2011A 2012A 2013AEBIT/Tangible Assets 43% 137% 99% 63%EBIT/EV 3% 5% 6% 4%

Technical Analysis

Weighted Cost of Capital

BetaBeta from Yahoo 1.153yr Beta 1.152yr Beta 1.121yr Beta 1.63Adj Beta 1.20

CAPMRisk Free Rate  2.40%Market Premium  6%CAPM 9%

Return to Owner 2 Year (Annualized) 8%1 Year -28%Half Year (Annualized) -8%Adj ZIXI Return to Owner 9%

Graham Growth Rate

Trailing P/E 24.85

Graham Implied g% 8.18%Capital Structure

Equity $198,702  100.0%Total Financing $198,702 100%     Discount Rate ZIXI Return to Owner 9% 33%Graham Implied g% 8.18% 33%CAPM 9% 33%Adj Cost of Equity  8.7% Cost of Equity  8.7% 100.0%WACC 8.7% Risk Premium  3.5% Discount Rate  12.2%  

Financial Projection Income Statement

  Historical Figures Forecasted Figures  2009A 2010A 2011A 2012A 2013A 2014E 2015E 2016E 2017E 2018ERevenues 26,407 33,066 38,145 43,356 48,138 49,727 56,191 62,372 69,233 75,464% growth 25% 15% 14% 11% 3.3% 13.0% 11.0% 11.0% 9.0%Cost of revenues 4,576 6,468 7,211 7,609 7,614 7,956 8,991 9,980 11,077 12,074% of Sales 17% 20% 19% 18% 16% 16.0% 16.0% 16.0% 16.0% 16.0%

Gross margin 21,831 26,598 30,934 35,747 40,524 41,770 47,200 52,392 58,156 63,390 % margin 82.7% 80.4% 81.1% 82.4% 84.2% 84.0% 84.0% 84.0% 84.0% 84.0%R&D 3,619 5,089 5,229 7,419 9,563 9,945 7,867 8,732 11,770 12,829% of Sales 14% 15% 14% 17% 20% 20.0% 14.0% 14.0% 17.0% 17.0%SG&A 15,927 16,363 15,128 19,385 21,646 22,377 25,286 28,067 29,078 31,695% of Sales 60.31% 49.49% 39.66% 44.71% 44.97% 45.0% 45.0% 45.0% 42.0% 42.0%

Operating income 2,285 5,146 10,577 8,943 9,315 9,584 14,202 15,764 17,498 19,073 % margin 9% 16% 28% 21% 19% 19.3% 25.3% 25.3% 25.3% 25.3%Interest expense -21 -22 -7 -1 0 0 0 0 0 0% of Sales -0.08% -0.07% -0.02% 0.00% 0.00% 0.0% 0.0% 0.0% 0.0% 0.0%

Income before income taxes 2,478 5,220 10,665 9,054 9,447 9,584 14,202 15,764 17,498 19,073 % margin 9% 16% 28% 21% 20% 19% 25% 25% 25% 25%Income tax benefit -67 35,500 11,889 1,949 1,006 0 0 0 0 0% of EBT -0.3% 107.4% 31.2% 4.5% 2.1% 0.0% 0.0% 0.0% 0.0% 0.0%

Income from operations 2,411 40,720 22,554 11,003 10,453 9,584 14,202 15,764 17,498 19,073 % margin 9% 123% 59% 25% 22% 19% 25% 25% 25% 25%

DCF Analysis

2014 2015 2016 2017 2018 2019-2023 Post 2023 with Tax

Net earnings pre tax 9,584 14,202 15,764 17,498 19,073 Depreciation and amortization 1,510        1,555       1,602       1,650      1,699       Capital expenditures (1,641)       (1,690)     (1,741)     (1,793)     (1,847)      Change NWC (134)          (3,516)     (2,586)     (2,871)     (2,607)      FCF 9,588 17,583 18,212 20,226 21,533 426,494 323,708 PV FCF 8,543        13,961    12,885     12,751    12,096      97,485        28,726        

Implied Equity Value $186,448 Discount rate  12.23%Current Share Outstanding 57,610.4 Terminal Value Growth Rate  2.50%

Implied share price $3.24

Implied Price

DCF : $3.24Current Stock Price : 3.25

Discount Rate3.24 11.23% 11.73% 12.23% 12.73% 13.23%

Terminal 

Growth Rate

1.75% $3.41  $3.23  $3.07  $2.92  $2.79 2.00% $3.48  $3.29  $3.12  $2.97  $2.83 2.25% $3.55  $3.35  $3.18  $3.02  $2.87 2.50% $3.62  $3.42  $3.24  $3.07  $2.92 2.75% $3.70  $3.49  $3.30  $3.12  $2.97 3.00% $3.79  $3.56  $3.36  $3.18  $3.02 

Key FactorsPro• Easy-of-Use• BYOD trend • ZixOne uniqueness• Google partnership • Cisco IronPort Encryption Appliance

Con• Industry rivalry high• First year order decreasing • Weak quarter expectation • No specific industry alignment

Recommendation

HOLD