Company Overview: RXP Services Limited is engaged in providing information and communication technology consulting, development, support and maintenance services. The Company's practices include RXP Collective, RXP Engaged, RXP Insight, RXP Develop and RXP Optimise. The Company uses design thinking to determine the customer experience based on the behaviors and the needs of the customers. RXP Engage provides change management services ranging from small project related change to whole of enterprise change. It provides governance, risk and compliance (GRC) services to financial institutions, government departments and businesses. It provides independent oversight of projects and change programs, post implementation reviews, risk analysis and mitigation services, as well as a range of health checks, compliance testing, and penetration testing. RXP Insight solutions offer cloud hosting and managed service. RXP Develop delivers enterprise software applications for cloud and on premise environments.


RXP Details

Expanding operations to Melbourne via The Works: RXP Services Ltd (ASX: RXP) had acquired The Works, in August last year, the integration of which is progressing well across all the fronts. The Works is expected to deliver financial results in line with the forecasts, and their capabilities have extended RXP’s overall client offering, and there have already been a number of important joint wins that would materialize in the second half. With the expansion of The Works capabilities into Melbourne in the second half of the year, RXP is expecting further additional benefits going forward. RXP has officially opened its Sydney Experience Hub, after the launch of its Melbourne Hub last year. However, the company has delayed the expansion of The Works capabilities into Melbourne from first half to the second half.

Adding Value with The Works: As the integration with the Works is undergoing, the clients are offering the trigger for integration as both the companies are “pitching” for new client work. The integration has occurred at the leadership level. Further, the merger has significantly enhanced the “go to market pitch” and capabilities. This has increased the end-to-end digital services delivery capabilities. Moreover, the company is looking for revenue opportunities resulting from cross selling across current client bases.
 

RXP Strategy (Source: Company reports)
 
Some Softness in Trading Update: With regards to RXP’s underlying business, the FY18 growth is expected to be at circa 6%. This is below the original expectations of 10% growth. The uptake in Digital services is gaining momentum, however, the underlying business has been affected by the faster than anticipated trail off in revenue associated with the company’s “commoditized” work. Further, although there have been several recent client-wins and renewals, the fall in the traditional services revenue does seem to have stabilized. As a result, RXP now expects FY18 revenue to be within the range of $162 million to $167 million, and an EBITDA margin is expected to be in the range of 14.6% – 15.1%. The company had previously projected that it expects FY18 revenue to be $174.7 million with an EBITDA margin of 15.1%. Additionally, the recent significant wins by RXP are within the banking & finance and government sectors in the traditional business and combined with renewals and the take up of the digital services, these are expected to boost the financial performance in the second half of FY18, with an expected split in revenue of approximately 44/56 in first to second half. Further, the expansion of The Works in Melbourne is expected to provide the company with added confidence for the second half of FY18 and beyond.

FY 17 Financial Performance: RXP in FY 17 reported 11% growth in the revenue to $140.5 million with digital service revenue growth continuing. Further, there was good growth across key specializations, with collective, develop and insight leading the way. The Underlying EBITDA was $19.5 million, which is a rise of 7%. The NPAT grew up 10% to $11.6 million and EPS was up 9% to 8.3 cents in FY 17. The company has posted the underlying EBITDA margin of 13.8%. Moreover, at the end of FY 17, the cash balance was $17.6 million, with net cash of $2.2 million and there has been continued growth in operating cash flow, which is up 23% to $18.1 million. Additionally, in FY 17, the bank debt facility of $25 million was in place, and $15.4 million of debt facility has already been utilized. In addition, the total dividend for FY 17 was of 4.5 cents per share. The total Dividend payout ratio for the FY 17 was 54% of NPAT.
 

FY 17 Financial Performance (Source: Company Reports)
 
Workforce mix: The group intends to continue to manage the commoditization risk as the procurement landscape changes by managing the mix of “project/outcomes/solutions/digital” based work and “augmentation/commoditized” work. They are maintaining their focus on “partnering” and digital delivery rather than simply “providing”. They are also expanding as well as enhancing their sales capabilities to help drive the increased focus on digital services. The group continues to maintain their focus on the ‘employee experience’ as well as stick with their ongoing improvement agenda laden with Values and Culture; Engagement; Development; Performance; Diversity and a “happier humans” campaign.

Outlook: The company’s revenue mix is changing as the digital work is expected to accelerate and will drive growth going forward. This is expected to drive higher margin and longer-term bodies of work. Moreover, the traditional services will continue to decline due to productivity gains and the shift to Digital technologies. RXP will continue to carefully manage the changing landscape. Additionally, Australia’s rapidly growing digital economy has been projected to be valued at $79 billion, and 5.1% of GDP, which is bigger than traditional industry sectors such as agriculture, retail and transport etc. The forecast value of the digital economy by 2020 is $139 billion, which is 7.3% of GDP. On the other side, the Chief Marketing Officer (CMO) is responsible for an increased percentage of total IT spend and increased budgets as a percentage of company revenue (which rose 12% in 2016). IT spend by the CMO is forecasted to overtake the CIO in 2017 while CMO technology investments are focused on drive to put customer at the heart of the business. Additionally, RXP’s enhanced debt facility is now finalized by providing the operational flexibility and headroom for acquisitions. The company in FY 18 will maintain conservative gearing and have the flexibility to fund future opportunities. Further, the company will maintain progressive dividend policy in FY 18.
 

The current revenue shift (Source: Company Reports)
 
ASX Query Letter: Late last year, RXP responded to ASX price query relating to trading scenario and stated that the company is not aware of any information which could affect the stock trade. The company has confirmed that it is in compliance with the Listing Rules and, in particularly, the Listing rule 3.1.

Stock Recommendation: The shares of RXP stock have fallen 9.9% in the last three months as on February 19, 2018. This has been related to the soft trading update for FY 18 as the company reduced the FY 18 revenue projection. On the other hand, this major correction in the stock price placed them at a very low P/E as well as at a solid dividend yield, while the growth potential is still intact. Further, the uptake in Digital services is gaining momentum, even though its underlying business has been impacted by the quicker than projected trail off in revenue associated with its commoditized work. The group is aiming for new digital work clients and aiming for winning more project-style work. We believe the stock could recover from the current levels going forward given their focus on new markets and the emanating potential opportunity. Based on the foregoing, we give a “Speculative Buy” recommendation on the stock at the current price of $0.68
 

RXP Daily Chart (Source: Thomson Reuters)

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