Research note


Cherry: Back on track and more than that

On Friday after the market had closed, Cherry Group announced a preliminary assessment of the Group’s development in the first quarter of 2018. The revenue was in-line with our projections, but the profitability was considerably higher, thanks to continued improvement within ComeOn. We argue that the improving margins are important for more than one reason. We raise our projections slightly and increase our Base-case valuation to 93 (85) SEK per share. We have stated it before and do it again, 2018 is Cherry’s year. It seems, by the looks of it, that our thesis will be correct.

The preliminary assessment of net sales during Q1 was almost actually as our estimate of SEK 679m. What impressed us the most was the strong profitability with an EBITDA margin of 28%, compared to our projections of 25%. We do not find it unlikely that the high margins are just an effect of lower than usual marketing investment, considering that the net sales rose 11% from Q4’17. It seems like the cost and marketing efficiency focus initiated by the new ComeOn management is working out well. In the PM Cherry also stated that several brands enjoyed market growth. We believe that the company is primarily referring to the newly launched, which according to third-party data looks like a total jackpot. The other business areas developed according to expectations during the period, which means a continued high growth from Game Lounge and Yggdrasil.

We raise our margin assumptions slightly following the strong quarter for the coming years, but we want to dig into the actual report before we make any more substantial adjustments. We expect that Cherry will produce net sales of SEK 2 870m with and EBIT of SEK 631m during 2018. Following the reversed profit warning, there should not be any more doubt about the “turn-around” case of ComeOn.

It's naturally positive for Cherry that ComeOn is back on track. But, it’s important for reasons that might not be obvious for most; namely the financial perspective. With this, we mean that an increased EBITDA level is essential, as it’s the measurement used by creditors to calculate interest cover ratio and Net Debt to EBITDA and other measures of financial stability. One of the management’s prime focuses right now, stated by the CEO in the last earnings call, is to lower the cost and increase the flexibility of their financing. We believe that Cherry want to stipulate new terms or redeem the bond and go for other financing alternatives as soon as possible. For example; we know that the bond terms hinder Cherry from doing a subsidiary divestment, Yggdrasil excluded. And there are also terms that stipulate both the minimum Net debt to EBITDA and Interest cover ratio of the Group. An increased EBITDA thanks to strengthening ComeOn is very important as it both can lead to an increased possibility of a Yggdrasil spin-off and enhance Cherry’s negotiating strength in a financing deal.

As described earlier; we make some positive forecast adjustments following the positive news; more changes might come when we see the actual report. The higher projections lead to an increased Base-case valuation of 93 (85) SEK per share.

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