Constellation Software Inc.

Constellation Software Inc. (TSX: CSU) is a Canada-based company that develops and customizes software for the public- and private-sector markets. The group acquires, manages, and builds vertical-specific businesses, while its operations are organized in two segments: Public Sector and Private Sector.

Key Highlights:

• Acquisition of Clinical Computer Systems: Recently, the group acquires Clinical Computer Systems, Inc. (CCSI), through one of its operating segments named N. Harris Computer Corporation. CCSI develops OBIX Perinatal Data System and works to incorporate changes in technology, regulations, and standards in the obstetrical department that support hospitals' strategic initiatives.
• Improved performance on Sequential Basis: The group impresses with its Q3FY20 financial numbers and posted total revenue, gross profit and operating income of USD 1,003 million, USD 978 million and USD 200 million, respectively. These numbers stood higher from USD 922 million, USD 900 million and USD 166 million, respectively in Q2FY20. Moreover, EBITDA margin, operating margin and net margin stood at 33.1%, 19.9% and 12.2%, respectively, increased from 31.6%, 18% and 9%, respectively in Q2FY20.
• Strong Cash Flow growth: For 9MFY20, the group delivered a strong cash flow from operating activities at USD 831 million, as compared to USD 512 million, a year ago. Moreover, the group reported a higher free-cash flow of USD 682 million, significantly higher than USD 397 million, a year ago. The group reported a strong performance growth backed up by operational resiliency.

Q3FY20 Financial Highlights:

• CSU announced its quarterly results, wherein the group posted revenue of USD 1,003 million, increased from USD 870 million in the previous corresponding period (pcp). The growth was driven by increased income from maintenance and other recurring and professional services.
• Total expenses stood higher at USD 800 million, as compared to USD 730 million in pcp. The increase was due to increased staff costs (USD 504 million, versus USD 434 million in pcp), higher amortization of intangible assets (USD 103 million versus USD 84 million in pcp) and a surge in third party license, maintenance and professional services expense (USD 82 million versus USD 75 million in Q3FY19).
• Net income surged to USD 122 million versus USD 82 million in the previous corresponding period.
• The group reported a cash balance of USD 565 million, while total assets were recorded at USD 3,879 million.

Source: Company Reports

Risks: A further breakout of COVID-19 might result in cancellation by individual customers of their ongoing software maintenance contracts and the suspension or revocation of new software purchases. The pandemic may also harm many of the customers, including their ability to fulfil ongoing payment obligations to the company, which could increase the company’s bad-debt exposure.

Valuation Methodology (Illustrative): Price to Earnings based

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation:

During Q3FY20, the group reported higher EBITDA and a net margin of 33.1% and 12.2%, respectively, as compared to the industry median 10.6% and (0.7%), respectively. In Q3 2020, the company posted a robust set of numbers, with ample liquidity in the balance sheet along with positive free cash flow available for shareholders of USD 181 million, which allows the company to expand their wing in new territories through acquisitions. We have valued the stock using the price to earnings-based relative valuation method and have arrived at a single-digit upside (in percentage terms). For the said purposes, we have considered peers like Enghouse Systems Ltd, Tecsys Inc and Real Matters Inc etc. Considering the aforesaid facts, we recommend a ‘Hold’ rating on the stock at the closing market price of CAD 1,553.46 on January 27, 2021.

CSU Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

Magna International Inc.

Magna International Inc. (TSX: MG) is engaged in the manufacturing and distribution of automotive components. Its segments include Body Exteriors & Structures, Power & Vision, Seating System and Complete Vehicles.

Key highlights

• Change in leadership:Last October, the company’s Board of Directors announced Swamy Kotagiri as next Chief Executive Officer, effective January 1, 2021. On the very first day of 2021, Kotagiri begins his journey as CEO and a Director of Magna International. 

• Combining strengths to Capitalize on electrification emergence: Recently, the company and LG Electronics announced a joint venture (JV) to manufacture e-motors, inverters and on-board chargers for certain automakers, related e-drive systems to support the growing global shift toward vehicle electrification. We believe this joint venture would accelerate both partner’s growth in the electric powertrain market. The market for e-motors, inverters and electric drive systems is expected to have significant growth till 2030, and the JV would target this fast-growing global market with a world-class portfolio.

Source: Company

• The bullish stance of management for FY 2020:The Company showcased fresh perspective for FY2020, where they raised the adjusted EBIT margin expectations and expects it to be in a range of 4-4.4%, compared to 2.9-3.3% as their previous guidance, while the net income attributable to Magna would be in a range of USD 850-975 million. The company also shared information for their upcoming Q4 2020, expecting healthy growth over the Q4 2019.

Source: Company

• Robust Liquidity:The company is enjoying strong liquidity. At the end of Q3 2020, they had total liquidity of more than USD 5.3 billion comprising of Cash & Cash Equivalents of USD 1.6 billion, up by USD 970 million, along with an unused credit limit of USD 3.7 billion.

Financial overview of Q3 2020 (U.S. dollars in millions, except per share figures)

Source: Company

• In Q3 2020, the Company’s reported Sales numbers decreased 2% to USD 9.13 billion, compared to USD 9.32 billion in the previous corresponding period. The fall in revenue was primarily due to lower assembly volumes and lower European light vehicle production.
• Cost of goods sold stood at USD 7.68 billion in Q3 2020, compared to USD 8.06 billion in Q3 2019, primarily due to lower material, direct labour and overhead costs associated with lower sales.
• Based on lower other expenses, EBIT in Q3 2020 stood at USD436 million, compared to a loss of USD319 million in Q3 2019.
• In Q3 2020, the Company posted net income of USD 405 million, compared to a loss of USD233 million in the previous corresponding period.  

Risks associated with investment

The business of the company involves many risks that can impact its business operations as well as financials. Some significant risks include deteriorating economic conditions resulting in lower vehicle sales and production levels, commodities prices, inflation, foreign currency fluctuations, supplier’s issue, governmental regulation, etc.

Valuation Methodology (Illustrative): Price to Cash Flow

All forecasted figures and peers have been taken from Thomson Reuters 

Stock recommendation

We strongly believe that the Company is likely to achieve the sales figure of USD 31.5 – USD 32.5 billion for FY 2020. Apart from that, controlled operating expenses would help the Company in expanding its operating margins. Moreover, the management is confident of achieving the Adjusted EBIT Margin in a range of 4% - 4.4%. Therefore, considering a healthy balance sheet, good promoter pedigree, efficient working capital management and valuation, we recommend a “Hold” rating at the closing price of CAD 89.29 on January 27, 2021. We have considered Lear Corp, Martinrea International Inc, Borgwarner Inc etc. as the peer group for the comparison.

Source: Refinitiv (Thomson Reuters)

Disclaimer

The advice given by Kalkine Canada Advisory Services Inc. and provided on this website is general information only and it does not take into account your investment objectives, financial situation and the particular needs of any particular person. You should therefore consider whether the advice is appropriate to your investment objectives, financial situation and needs before acting upon it. You should seek advice from a financial adviser, stockbroker or other professional (including taxation and legal advice) as necessary before acting on any advice. Not all investments are appropriate for all people. The website www.kalkine.ca is published by Kalkine Canada Advisory Services Inc. The link to our Terms & Conditions has been provided please go through them. On the date of publishing this report (mentioned on the website), employees and/or associates of Kalkine do not hold positions in any of the stocks covered on the website. These stocks can change any time and readers of the reports should not consider these stocks as advice or recommendations later.