Softline - Analyzing the Updated Guidance

Softline's 3Q21 results and the management's updated guidance for financial 2021 (ending March 2022) indicate that the seasonal pattern might be different this year. There was a substantial Q-o-Q drop in turnover in 4Q20, whereas the updated guidance for 4Q21 envisages turnover coming in anywhere from -1% to +14% Q-o-Q. The management expressed confidence that the company will reach the guidance and even indicated that five M&A deals concluded in 2022 had not been included and could produce further upside. Although the upper end of the 2021 turnover guidance is slightly below the consensus, the gross margin and EBITDA margin guidance imply that Softline will meet the consensus EBITDA forecast even at the lower end of its turnover guidance range.> Updated turnover guidance... Softline is now guiding 2021 turnover of $2.3-2.4 bln, which implies 16-21% organic growth in y-o-y terms, versus the "mid-20s" growth mentioned in the IPO prospectus (and also slightly below the consensus estimate).> ... envisages material increase in growth in 4Q21. The guidance also implies 55-78% y-o-y turnover growth for 4Q21 (versus 13.3% in 3Q21 and 20% in 9m21). This equates to a Q-o-Q performance of between -1% and +14%; in 4Q20, turnover fell 27.5% Q-o-Q. The management cited two main reasons for the accelerated growth in 4Q21: the high-base effect from 3Q20 and the postponement of some large contracts to 4Q21. In terms of the high-base effect, Russia will be the most important element of the picture, as VAT on foreign software was introduced on January 1, 2021, so customers rushed to buy before the deadline (during Softline's financial 3Q20, which ends on December 31). We note that accelerated purchases in 3Q20 weighed on turnover in 4Q20. > The new turnover guidance does not factor in recent M&A deals. Softline said the new turnover guidance does not take into account recent M&A deals, which could provide further upside to the numbers. Softline has purchased five companies in the first two months of 2022. Based on the due diligence data, the companies generated combined annual turnover of around $57.5 mln and annual EBITDA of $12.8 mln, so the contribution from one or two months should not be a game-changer. However, the acquisitions (Softclub and Umbrella Infocare being the largest) have added around 2,000 engineers to Softline's team and raised the share of services in overall turnover, which should bring higher margins. The first payment for the companies was $33.8 mln and the total price was in line with Softline's target EV/EBITDA multiple of around 5. The remainder will be paid for with growth-based earn-out payments.> Higher margin guidance implies EBITDA in line with consensus, even with turnover at lower end of guidance. Importantly, Softline indicated it now projects a gross margin of at least 13.5% for financial 2021 (versus 13-14% before) and an EBITDA margin of at least 26% (consensus 25%). Combining these factors, even if turnover was to come in at the lower end of Softline's new guidance, EBITDA would reach roughly $81 mln (versus the consensus estimate of $81.6 mln), while turnover closer to the upper end of guidance would produce EBITDA of $84 mln.> Medium-term guidance remains intact. The medium-term CAGR guidance was kept in the "high teens" for turnover and the EBITDA margin guidance was kept in the low 30s (as a percentage of gross profit).> We leave our forecasts unchanged for now; the discount to SoftwareOne has widened from 10-15% to 25%. We have left our forecasts unchanged for now, as our $82 mln EBITDA estimate for 2021 is within Softline's new guided range. Notably, Softline's discount to SoftwareOne has widened substantially since the IPO. The average discount on EV/NTM EBITDA was roughly 13% in December until mid-January. Although the discount peaked at above 50% and has compressed substantially since then, it still stands at roughly 25%. We expect the share buyback program, which was recently expanded to $100 mln, to provide support for the stock, and if the company achieves its guidance and confirms its longer-term projections, the discount should narrow further. We keep our BUY recommendation on Softline.