Company Overview: rhipe Limited (ASX: RHP) offers cloud licensing and solutions for its software vendors across the Asia Pacific region. Its divisions are focused on cloud licensing, cloud solutions, and cloud operations. The company holds intellectual property in the form of PRISM (Platform for Recurring Subscription Management) to boost the consumption of its cloud license programs.

RHP Details

RHP Rides on Acquisition Synergies and Capital Raising Initiatives: rhipe Limited (ASX: RHP) is engaged in the sale and support of subscription software licenses to ~3,000 IT service provider throughout the Asia Pacific region. Despite economic headwinds due to COVID-19, RHP remained on track to invest in key growth strategies. It provided rhipe Limited with an opportunity to grow its market share and capitalise on the changing industry dynamics. The company had announced that it has inked a deal to acquire 100% of the share capital of Parallo Pty for an initial consideration of NZ$4.25 million, payable in cash post the transaction is completed. The acquisition is in-line with RHP’s goals to offer its partners the latest infrastructure technology, drive new growth prospects, innovate, and diversify their businesses. In FY20, the company entered into a joint venture with Japan Business Systems Inc. (“JBS”). The company expects FY21 to be continued as a year of investment to accelerate the growth of its business in Japan. Further in 2019, the company acquired 100% of Network2Share Pty Ltd.

During the 2HFY20, RHP undertook a capital raise of $32.5 million, in order to take advantage of future acquisition opportunities. Consequently, the company’s year-end cash position came in at $60.9 million, compared to a cash position of $25.5 million at the end of the previous year. Management opines that the cash position of the business will continue to be resilient and as a result, the Board has declared a final dividend of 2 cents per share, payable in September 2020.

Talking about 1QFY21, revenues increased by 16% year over year and came in at $14.7K, which increased ~16% year over year. Operating profit, including Japan JV stood at $3.9K, suggesting an increase of 39% from the prior corresponding period figure of $2.8K. The company continued to deliver robust revenue growth, thanks to strong growth in Microsoft public cloud products including Office365 and Azure. In 1QFY21, licensing margins remained stable at 13.6% compared to FY20 licensing margin of 13.6%.

Key Results (Source: Company Reports)

Looking at the performance over the period of FY17-FY20, the company’s EBITDA reported a CAGR of 42.6%. Gross sales reported a CAGR of 27.5% in the same time span, with continuous upward progress.

Gross Sales Past Performance (Source: Company Reports)

Coming to FY20, the company delivered an operating profit of $15 million, which excluded the investments in rhipe Japan. Significantly, the operating profit of RHP’s core licensing business grew 36% year over year. The company remains invested in the platform to maintain a strong competitive position to attract new vendors. Also, RHP invested in the development of both private cloud and public cloud businesses. The company’s FY20 results have shown a continued strong growth trajectory. Throughout the period, RHP has grown across geographies, products and licensing programs and has been able to capitalise further on its 2019 profitability. This along with, robust subscription-based revenue, during the period, helped the company to come out stronger during the COVID-19 global pandemic.

Higher Adoption of Cloud Software Aids FY20 Results: During the period, the company witnessed strong demand for public cloud software and infrastructure that boosted the sales by 29% as compared to a prior corresponding period and came in at $325.2 million. The company also reported revenue growth of 15%, backed by increased contribution from Microsoft Azure and in public cloud. The Group’s reported EBITDA came in at $11.6 million, an increase of 16% year over year. Net profit after tax decreased by 19% on Y-o-Y basis and came in at $5 million. The company’s operating profit in FY20 grew 17% year over year that was led by a 36% increase in Licensing operating profit.

FY20 Results Highlights (Source: Company Reports)

Balance Sheet & Liquidity Position: The company exited FY20 with a cash balance of $60.9 million. Total debt (lease borrowings) amounted to ~$3.9 million at the end of the period. During FY20, the company generated an operating cash flow amounting to $13.7 million, indicating an increase of 13% on prior corresponding period cash flow of $12.1 million. During the period, the company paid dividends of $2.8 million and invested ~ $2.1 million in its key subscription management platform, PRISM. As on 30 September 2020, cash balance stood at $53.8 million, following the payment of $3.2 million fully franked dividend and NZ$4.25 million payment for the recently completed Parallo acquisition. For FY20, the company reported gross margin, EBITDA margin and net margin of 93.8%, 22.4% and 8.6%, respectively. Gross margin and net margin stood higher than the respective industry medians. This indicates a better profitability position in comparison to the broader industry. Debt to equity ratio for the period stood at 0.04x, lower than the industry median of 0.34x.

Key Metrics (Source: Refinitiv, Thomson Reuters)

Key Update: On 5 January 2021, the company informed the market in accordance with the requirements of the ASX Listing Rule 3.8A, that it has withdrawn 57,263 fully paid ordinary shares bought back under an off-market share buy-back. Consequently, the company now has 161,075,376 fully paid shares on issue, which consist of 160,609,537 quoted shares and 465,839 Unquoted ASX restricted shares.

Top 10 Shareholders: The top 10 shareholders have been highlighted in the table, which together form around 33.23% of the total shareholding. Tutus McDonagh Pty. Ltd. held the maximum number of shares with a percentage holding of 14.84%, followed by First Sentier Investors holding 4.78% of the shares.

Top Ten Shareholders (Source: Refinitiv, Thomson Reuters)

Risk Analysis: The rising level of uncertainty led by coronavirus outbreak, remains a potential headwind. Further, competitive pressure from existing competitors and their entrances in the new market poses a threat to its financial well-being. Moreover, higher reliance on Microsoft, failure to keep pace with ever-changing technologies, failure to retain existing customers and attract new customers along with geopolitical risks add to the woes. Also, higher demand witnessed from IT resellers for extended payment terms led to an increase in RHP’s provision for doubtful debt by $1.1 million, which continued in FY21.

Industry Outlook: The demand for software and services continues to spur, as businesses are increasingly moving their operations to the cloud. Further, the industry is profiting from the prolonged digital transformation drive. Robust adoption of cloud computing, digital personal assistants, predictive analysis, AI, and IoT has set the stage for strong growth. The near-term expectations are optimistic, given improved spending by enterprises on software procurement. Also, higher investments in big data and analytics as well as increased demand for SaaS opens up a substantial opportunity for industry players. SaaS companies are likely to disclose solid top-line growth owing to a lower churn rate, higher percentage of recurring revenues, and subscription gross margin.

What to Expect: The company’s investment in operations to support the expansion of Microsoft Azure is expected to aid growth in sales, revenue, and gross profit for the Group in the days ahead. Moreover, RHP’s investments in these future growth areas ensure its competitive advantage over peers in the rapidly expanding cloud industry. Going forward, the company expects to retain a strong balance sheet with significant cash reserves. It is also maintaining appropriate liquidity in an increasingly volatile and uncertain time.

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: P/CF Multiple Based Relative Valuation (Illustrative)

P/CF Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation: For FY21, RHP expects to witness growth in its top-line owing to various opportunities, challenges, and uncertainties. Further, the company’s ongoing investment in licensing sales and solutions capabilities are key positives, going forward. The company also targets to generate operating profit in FY21, given its careful management of cost-cutting initiatives during the pandemic outbreak. The stock of the company gave a negative return of 1.59% in the last three months but went up ~6.9% in the past one-month period. The stock made a 52-week low and high of $1.155 and $2.42, respectively, and is currently trading slightly above the average of its 52-week trading range. On the technical analysis front, the stock has a support level of ~A$1.625 and a resistance level of ~A$2.2. We have valued the stock using the price to cash flow multiple based illustrative relative valuation method and for the purpose, have taken the peer group - Data#3 Ltd (ASX: DTL), Superloop Ltd (ASX: SLC), and WiseTech Global Ltd (ASX: WTC). As a result, we have arrived at a target price, offering an upside of lower double-digit (in percentage terms). Hence, considering decent FY21 outlook, buyout synergies, decent financial performance, and strong liquidity position, we give a “Buy” recommendation on the stock at the current market price of $1.885, up by 2.168% on 8 January 2021.

RHP Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

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