NB initiates on Halogen Software

Since I’ve been chipping in of the story for awhile (see representative prior posts “Two Tech IPOs moving to the launch pad” Feb. 24-13, “Halogen IPO filing gives Canadians their first chance to taste tech in far too long” Apr 2-13), I thought I would do you the service of sharing a report from a real tech analyst. Here’s a summary of National Bank’s Kris Thompson’s new coverage on Halogen Software (HGN:TSX):

A BRIGHT INVESTMENT OPPORTUNITY

HGN (TSX) Cdn$13.65
Stock Rating: Outperform
Risk Rating: Above Average
12-Month Target: Cdn$18.00
12-Month Total Return: 32%
Shares O/S: 21.6 Mln
Market Cap: Cdn$295 Mln

HIGHLIGHTS

Talent management software helps to automate businesses’ most important assets: people: Halogen Software was founded in 1996 and now employs over 300 people with headquarters in Ottawa. Halogen’s software helps companies automate the recruitment, education, assessment, management and rewarding of employees.

Leading vendor in the mid-market, defined as enterprises with 100 to 10,000 employees, should result in improving earnings visibility: Our research indicates that Halogen is a leading talent management vendor for the mid-market.

Existing customer base provides revenue visibility and upside: Halogen generates the bulk of its revenue from existing customers, of which there are over 1,750. Halogen’s customers purchase on average 2.2 modules out of seven available today; the base offers strong growth opportunity. We expect a ramp in sales & marketing combined with international expansion to lead to new subscription revenue growth.

Emerging growth sector with plenty of Greenfield opportunities: The talent management market is estimated to be around $3-4 billion this year. We believe the large market size and an expected market growth rate in excess of 25% over the near term provides opportunity for multiple talent management vendors.

Valuation is reasonable for several reasons: revenue visibility, positive EBITDA excluding growth investments, and potential for sector consolidation leading to a premium takeout: We estimate run-rate EBITDA before discretionary growth investments will be around $20 million exiting 2014. On that basis the stock is trading at about 13x EV/EBITDA on our 2014 estimates; not expensive for a growth company with very attractive revenue visibility. We are initiating coverage with an Outperform rating and Cdn$18.00 target.

Risks: Inability to grow profitably, low barriers to entry, foreign exchange exposure, competition, M&A, lockup agreement expiration and general macroeconomic cycles.

MRM
(disclosure – I own HGN)