Our research team at Calamatta Cuschieri has recently conducted an equity valuation analysis on RS2 Software plc (“RS2” or “Group”) with a “Buy” recommendation and a one-year price target of €2.22, implying a capital upside of 11% to the current price of €2.00 as at the date of this writing.
RS2 is principally engaged in the development, implementation and marketing of computer software for financial institutions under the trade mark of BankWORKS®. Benefiting from continuous upgrades of the BankWORKS® product portfolio in line with market changes and opportunities, as well as using new technology, RS2 clients are well positioned to increase their market share and meet their business objectives.
Over recent years, RS2 has been in a pivotal transition stage, in the process of on-boarding large clients in terms of the managed services business and adding new markets to its existing customer portfolio, with a special focus on the US operation. During H1 2019 the Group has successfully managed to secure new contracts and opened up new verticals and regions within Europe Middle East Africa (EMEA), Latin America (LATAM) and Asia Pacific (APAC) concerning managed services, in combination with a strong pipeline of new potential large clients, within several new international territories.
In terms of the US Operation, RS2 continued to invest heavily in building up the team and infrastructure and delivering full product capabilities to the market. It is key to highlight that such operation has now come to fruition, whereby during H1 2019 the Group managed to generate revenue for the first time from the US managed services business.
RS2 is also working on submitting the application for its financial institution licence to be regulated under the German financial regulatory body (BaFin), targeting to obtain the licence by Q1 2020. This step will bring the Group to the next level of its expansion, whereby RS2 will be in a position to acquire the business of merchants, manage their settlement and funding and charge a percentage of the monetary value of the transaction in comparison.
As per 2019 LTM results, revenue derived under the licensing segment decreased by 31.9% to €14.5 million, when compared to FY 2018. This decline is attributable to the adoption of IFRS 15, requiring the Group to recognise €5.6 million in revenue which was already recognised in revenues prior to FY 2018 in terms of IAS 18, to be recognised in revenues again in FY 2018 as a result of the adoption of IFRS 15.
Revenue derived under the managed services business as per 2019 LTM results, increased by 64.7% to €6.1 million. This is mainly attributable to an overall improvement generated from all geographical markets in which RS2 operates in, especially from the US operation, whereby the Group managed to earn €1.9 million from the US managed services business.
During H1 2019, RS2 continued to invest in human resources and infrastructure as part of the Group’s growth expansion strategy within EMEA, APAC and the US. Consequently, the Group incurred an upsurge in cost of sales (+12.9%), marketing expenses (+94.8%) and administrative expenses (+47.7%) in comparison to the previous corresponding period.
EBIT as per 2019 LTM results tapered down to negative €0.4 million from €6.6 million in FY 2018 in line with the increase in operating expenses incurred by the Group to fund international growth, together with the decline in revenue due to the adoption of IFRS15. This led to a decline in EBIT margin from 26.4% in FY 2018 to negative 1.9% as per 2019 LTM results. Going forward, EBIT margin is expected to improve from 6.9% in FY 2019 to 48.6% in FY 2022, in line with our view that the Group will successfully pursue international growth.
RS2 is currently trading at 90.9x earnings (FY 2018). Based on our 2020 projected earnings and current price, the forward P/E ratio stands at 48.2x. We are of the view that the Group’s share price of €2.00 has the potential to trade at higher levels, once the Group’s projects materialise further.
Upon taking the above factors into consideration we anticipate that the Group can continue building on its growth trajectory, leveraging further its unique business model. Based on this, combined with the continued development of RS2’s products offering we believe RS2 is well positioned to achieve super normal growth by attracting leading financial organizations, processors and merchants, and as such we rate these shares a Buy.
The main downside risks are delays in implementation and over-ambitious guidance from management, which could significantly affect investor sentiment, should revenue growth not materialise in the forecasted periods.
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