Discl: Held IRL

THE GOOD

Revenue

• 5.2% increase in operating revenue, 2.1% in NPAT, 1.0% increase in EPS - organic growth, highest ever operating revenue result vs FY2023 guidance was 3-5% increase in revenue
• Services, Support & Maintenance revenue grew organically 7.3% YoY, well above historical average of the business
• No customer makes up more than 7% of revenue - diverse across geography, currency, product, and industry
• Continued generating significant cash-flows and the paying down of debt - effectively net debt zero outcome
• Several new logos and renewals won during FY23, no material loss of customers in FY23

Cash Flow and Debt

• $78.8m of operating cashflows in FY23, used to (1) retire $33.6m of debt (2) pay dividends of $18.4m (3) fund the capitalised portion of ongoing product development program of $21.1m.
• At the end of FY23, total borrowing's is $54.3m, net debt is effectively zero
• Strong balance sheet with headroom for future borrowing capacity when the right acquisition opportunity is secured
• Final Dividend of 5.0c, partially franked to 1.5c

FY24 Outlook

• Organic revenue growth rate in FY24 is 5-7%, higher than FY23 5.2% growth
• EBITDA expected to remain above 30%, and above pre-pandemic historical run rate of 25-30%
• FY24 capitalised R&D spend of 5-7% of revenue

Acquisition Pipeline

• Macro-economic factors increasingly favourable for acquisitions
• Having effectively zero debt, HSN has significant financial resources for acquisitions

NOT SO GOOD

• Underlying EBITDA FY23 was $99.5m, Labour costs and staff churn has stabilised
• EBITDA margin at 31.9% reflects careful cost control - 2HFY23 EBITDA margin was 33.5%, indicating HoH margin improvements
• Licencing revenue bounces around from half-to-half - driven by revenue recognition standards, does not appear to be a concern

WATCH & RISKS

FY24 seems set up to be a year of acquisition as (1) opportunities increase with the current macro challenges globally and in EMEA where HSN has a big footprint (2) decks have been cleared from a debt perspective to build the war chest to fund acquisitions - need to watch that the acquisitions make sense - excellent track record in this respect, so risks are very low

SUMMARY

• Good solid results, exceeding FY23 guidance, steady as she goes - as “defensive” as technology companies can go
• FY24 guidance is bullish
• Expecting M&A activity in FY24

Positives

• Stable, steady-as-she-goes result - boring really
• No loss of customers, significant project go-lives, stable margin - signs of continued operational excellence amidst staff, wage and inflationary pressures and a highly sticky customer base
• Guidance for FY2023 maintained - 2HFY23 should see a better result than 1HFY23 due to (1) license renewal revenue - a timing difference in 1HFY23 (2) benefits flowing through stabilisation of workforce churn (seen in higher costs, reducing EPS)
• Continue to be robustly cash generating, enabling rapid payment of debt (net debt $28.7m, 0.32x leverage ratio, but no debt actually paid this half), war chest in in place to take advantage of M&A opportunities as businesses globally face increasing pressures to shed cost as interest rate rises and other business inflationary pressures kick in - IT is always a good candidate for cost shedding, HSN is well placed to pounce
• HSN is well placed with operational excellence/improvement and cash generation continuing in one stream, which then directly feeds its ability to find and execute M&A opportunities
• Recent history has suggested that patience in M&A opportunities will likely be well rewarded as financial screws tighten further globally in CY23 and CY24 - next 12-18M could be very interesting

Minuses

• Growth is significantly more “steady-to-flat” and boring - out performance will occur in distinct steps, tagged to M&A activities
• Flat pcp revenue

Things to Watch Out for for 2HFY23

• No improvement in license revenue in 2HFY23 - this would be a cause for concern
• Costs continue to rise rather than flatten
• Progress on any M&A opportunities
• Continued traction on deployment implementation

Other Observations

• The lack of M&A in recent periods has probably allowed for a period of technical stability to enable digesting/integrating/embedding of the acquired technology into the broader solution suite and customer - a good thing
• Recent announcements appear to be contract extensions or new deployments of the HSN Solution Suite

Red Flag Risks

• Loss of customers - a big red flag given historical trend of retention
• Hint of challenges in technology deployment

Portfolio Positioning

• Current portfolio has too much cash from forced divestments of high growth/high gain companies in the portfolio due to being acquired
• HSN provides (1) a better position to deploy that scarce cash while looking for new opportunities to invest in (2) a ballast to a tech and growth-skewed portfolio (3) a steady dividend stream
• Is not the best place to deploy scarce capital as there are more exciting opportunities for growth, but it is prudent to inject a bit of strong stability and strong cash flow generation into the portfolio, with the potential for decent price upside
• Added 0.5% today at $4.71 to the existing 0.62% position, bought at $4.47
• Ultimate position size could be 2.5-3.0% over time.
• Has not tested 52-week lows of $4.32 for some time and is nowhere near the 52-week highs of $6.10 - have funds availability to top up if the market tanks and 52 week lows are re-tested

Discl: Hold 1.1% IRL