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Treasure Chest: TechnologyOne Stumbles

Treasure Chest | Oct 06 2020

This story features TECHNOLOGYONE LIMITED. For more info SHARE ANALYSIS: TNE

As a result of extra provisioning for an adverse finding in an unfair dismissal case, TechnologyOne now expects results at the lower end of guidance.

-Higher provisioning but little impact likely for FY21
-Exposure to tertiary sector not considered problematic
-Transition to software-as-a-service progressing slowly

 

By Eva Brocklehurst

While most technology stocks have performed strongly during the pandemic, TechnologyOne ((TNE)) has stumbled and now results are expected to be at the lower end of guidance. Guidance is for pre-tax profit growth of 8-12%.

A court has ruled adversely in a case brought by a former employee which requires the company to pay -$5.2m, well above the -$1.6m provision TechnologyOne had already taken in relation to the case.

An appeal will be made to the Federal Court but an additional provision of around -$3.6m is now required in the FY20 result. The case involves the unfair dismissal and workplace bullying of the former Victorian office manager who sued the company in 2018 for $14.8m, claiming incentives were also not paid.

Bell Potter downgrades estimates by -2% for FY20 as a result of the adverse ruling and additional provisions, forecasting pre-tax profit of $82.5m, but makes little change to FY21 and FY22.

Otherwise, TechnologyOne has not made any material announcements since its first-half report in May, but Morningstar notes the stock has fallen by -20% subsequently. This is made more surprising by the fact that technology stocks on the whole have performed strongly.

Morningstar is not overly concerned because at the peak in early May, the stock was materially overvalued and the business retains a strong position in enterprise resource planning software in Australia.

Now, with the stock no longer overvalued and trading at the lower end of the Morningstar "fair value" range, the researchers assert the business is strongly positioned and growth should continue as clients migrate to software-as-a-service from on-premises contracts.

Concerns

There have been concerns about the reported sale of around -$64m in shares by co-founder and current chairman Adrian Di Marco and co-founder John Mactaggart, but Morningstar does not consider this is significant as both have sold shares gradually over recent years.

There have been criticisms in relation to the way revenue is recognised at TechnologyOne, but the researchers point out this is not particularly new and does not justify changes to forecasts or valuation.

Another concern raised in the market recently is the company's exposure to the tertiary education sector, which is heavily affected by pandemic-related border closures. Again, Morningstar does not believe TechnologyOne will lose customers unless those customers cease trading.

The tertiary sector is also expected to recover in 2021 as the global economy re-opens and brokers have previously emphasised the company's revenue stream is not linked to international students.

Slow Growth?

Macquarie suggests the transition to software-as-a-service is progressing more slowly than previously expected and will closely note the growth outlook for FY21. An acceleration in growth is required to hit the company's target of $500m in annual recurring revenue in FY24 and provide a basis to re-rate the stock.

Macquarie assesses the scaling back of high-margin, on-premises licence fees, combined with the ramping up of capitalised software amortisation, creates a hurdle for earnings into FY22/23, until the software-as-a-service business scales up.

The broker points out that compared with the Small Ordinaries index, TechnologyOne is trading at historical highs, but when compared with the ASX Information Technology index it is broadly in line with historical averages.

Bell Potter acknowledges profit growth guidance of 8-12% is low for a stock that is trading on an FY22 price/earnings ratio of around 40x, but calculates underlying growth is well over 20%, when the anticipated fall in on-premises licence fees is taken out.

The broker, not one of the seven monitored daily on the FNArena database, retains a Buy rating and $9.50 target. The FY20 result is due on November 24. FNArena's database has one Buy, one Hold and two Sell ratings. The consensus target is $8.12, suggesting 1.3% upside to the last share price.

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