Silverlake Axis (SGX: 5CP) has a rough performance this year so far.
Just by looking at the chart, share price has dropped by almost half since the start of this year from 40 cents to the current 21.5 cents.
If we take its performance from one year back, it has dropped a lot more from 54 cents/share.
For those who does not understand what the company does, one might misunderstood thinking that the company is related to aviation or tourism industry because of the level the share price is descending.
With share price hovering at an all time low valuation (with exception to 2017, I’ll explain why), the question is if there is light at the end of the tunnel and if the company represents an opportunity buy to investors.
The company’s business segment is divided into two parts: recurring and non-recurring in nature.
The recurring aspect of the business is referring to the maintenance and enhancement services that it provides to banking institutions as well as Software as a service (SaaS) while the rest are more project based related.
Maintenance and Enhancement Services:
The maintenance and enhancement services segment focuses on providing software support to banking institutions.
The company performs maintenance services for the software solutions that they have implemented for their customers. Enhancements are also planned and deployed per the required software release schedule.
From FY2014 to FY2019, the maintenance and enhancement services segment have doubled from Rm 210m to Rm 421m. For the period ending Q3 FY2020, the segment has also outperformed the Q3 FY2019 period by 10%.
This is what the company described as sticky moat because the digital banking back end are generally complex and contracts procured are generally long term in nature, thus contributing to a high level of retention of the same customers. Margins are also high for this segment as most of the operating costs incurred are human capital in nature, providing round the clock solutions to customers.
This segment will continue to grow as they continued to win small marginal contracts.
Software as a Service (SaaS)
I’m a big fan of SaaS business because of the high profit margins, positive operating cashflow and easy visibility on the revenue.
Providers usually capitalize software and amortize it over a period of time over the length of the useful lives. They would then do a mark-up to charge a subscription fee to customers who depend on these services.
It is great for cashflow because not only will the company be able to generate a positive cashflow from this segment but also easily plan for the next 6 to 12 months with clear visibility.
The insurance processing business, undertaken by Merimem Group, focuses on providing cloud computing SaaS platform for policy claim processing for the insurance industry.
In the past recent years, the Group has established its operations and services in the ASEAN. The next few years the Group will see growth in North Asian countries like Japan.
In FY2019, revenue from this segment grew 10% from Rm30.3m to Rm33.4m with contributions coming from the expansion in Philippines, Vietnam, Thailand, Hongkong and Indonesia from its analytic software suite called Truesight.
Software Project Services
This is project services which the Group has to bid and tender for implementation or customization of software services.
While 9M FY2020 revenues are down to Rm51m versus Rm67m in the previous year due to completion of projects, the Group is optimistic that the digital banking license assessment, which MAS has delayed to 2H2020 will be a one to watch out for.
This segment is highly correlated to the software project services.
Software licensing contributed about 15% of the overall Group’s revenue.
In 2019, the Group also acquired 80% of SIA X Infotech Group’s shares, enabling them to offer Digital Identify and Security Technologies such as biometric verification and enrolment to existing and new customers.
Licensing fee is highly dependent on securing new contracts from existing and new customers so this segment will be lumpy in nature.
For the 9M ending FY2020, this segments were already down to Rm 52m from Rm66 last year for the same period due to completion of projects in Thailand.
Sales of Software and Hardware Products
Although this constitutes a smaller portion of the Group’s overall revenue, 9M FY2020 numbers have increased significantly to Rm 21m versus Rm 5m last year due to one sale of high value hardware to support technology advancement for existing customer.
The Group is an authorised reseller of IBM hardware products and system software in Malaysia.
As a reseller of products, this is a lower margin business as compared to the other segments.
Credit Cards Processing
This is one segment that I think the Group is trying to unwind down because it’s a low margin business with many competitive areas from other competitors.
Two of the Group’s main customers in Japan has decided to terminate and this results in the huge drop from this segment for this year and previous year.
The Group’s financials are healthy and fairly stable over the years, although you could argue that topline doesn’t grow by much over the years.
What has really changed for me is that the nature of the revenue has switched from more project work (which tends to be more lumpy) to more on maintenance and enhancement, which are more recurring in nature.
This provides visibility on financial planning, capex and cashflow needs.
Both GP margins and NP Margins have been fairly healthy over the years, with exception to FY2020 where they lost the tax concession pioneer status due to expiry for the Malaysian subsidiary effective Q1 FY2020. The pioneer status allows for income tax exemption of up to 70% to 100% of statutory income for 5 to 10 years. It also allows any unabsorbed capital allowances and accumulated losses incurred during the pioneer period to be carry-forward. It remains to be seen if the Group can apply for extension on this pioneer status validity for the next 2 to 3 years.
Earnings per share for FY2020 annualised looks to be at around SGD 1.88 cents/share, which translates to about 10x PER.
That’s the cheapest it has ever been (excluding FY2017 due to one-off disposal of marked to market interests in associates) from a valuation perspective in the last 10 years.
In fact, for a company with a such a predictive and sticky moat, it is hard to imagine that the market is pricing the shares at 10x price to Covid-earnings. There’s a lot of bad news that is baked into the current share price and I think what investors need from the company is really just patience, and time for its value to be realized.
With so much software, tech and SaaS company outside trading at crazy multiples, it is quite a steal to be getting such a valuation for a company that I think we know will be around for a number of years and will prosper as we move towards more digitalization, fintech and banking licensing needs from both banking and non-banking institutions.
I believe why the market is attributing such low valuation right now is because there is currently no catalyst in play.
While management has cited that they are still winning the smaller contracts, larger contracts are harder to come by as most banking institutions are conserving their cash to delay some of the capex projects in hand in view of the economic uncertainty. As a result, this lack of catalysts calls for a drop in the valuation which investors are currently switching their money elsewhere in mind.
Nevertheless, I believe that the market has overly discounted the resilience of the business in mind, the stickiness of the moat and how the business can take advantage of the upcoming digital banking and considering they are trading at a valuation of 10x PER, this will continue to be an accumulation play for me.
Target price would be 32 cents, which represents a 50% upside in the next 12 months with either new contract announcement, or post-covid return to normalcy whichever is earlier.
Disclaimer: Author is vested in the abovementioned company as of writing
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