SDS reported a solid y/y growth of 5.7%, and net sales amounted to SEK73m, above our expectations of SEK68m. Regarding the sales mix, New sales landed on SEK20m compared to our estimate of SEK18m, Recurring revenues amounted to SEK36m compared to our estimate of SEK33m, and Re-occurring revenues amounted to SEK17m, below our expectations of SEK18m. The Gross Profit amounted to SEK52m, corresponding to a gross margin of 71%, up from 65% in Q2 2022.

In terms of profitability, SDS’s EBITDA landed on SEK19m, above our expectations of SEK16m. EBIT was SEK8m, higher than our estimate of SEK5m. The deviation is explained by the higher sales, while Opex came in somewhat higher than expected.

Cash flow from operations amounted to SEK-9.5m, compared to SEK-12.5m in Q2 2022. The cash flow was negatively affected by higher working capital

All in all, we think SDS reported another solid quarter surpassing our expectations in both sales and profitability. Once again, we are especially glad to see the strong growth in recurring revenues which increased both y/y and q/q. However, we do acknowledge that the cash flow during the quarter was relatively weak, primarily due to a buildup in working capital as customer payments and some projects were postponed. While we understand that navigating payments from various markets can be challenging and may be more of a timing issue rather than potential write-downs of receivables, we will closely monitor SDS's cash flow given its financial situation.

In recent quarters, the primary focus has centered on optimizing cash flow and implementing cost-reduction measures. Nevertheless, we find encouragement in the fresh growth incentives introduced by the company's new CEO, Eddy Cojulun. His strategic vision to venture into untapped markets, notably Latin America, leveraging his extensive expertise, opens up exciting opportunities for SDS.

SDS's recurring revenues have stabilized at around SEK30m per quarter since Q3 2021, and for the full year of 2022, they amounted to SEK121m, representing approximately half of the company's total sales. However, recurring revenues experienced a notable surge in Q1 2023 and increased 18% y/y, reaching SEK35m. The high level remained in Q2, and recurring revenues amounted to SEK36m (a q/q increase of 3.4%). Our understanding is that the higher recurring revenues stem from a heightened focus on supporting fees for new contracts, alongside a general increase in new sales. This could also indicate that the implementation of the new strategy, focused on offering more standardized products, is proving to be successful.

This is a positive development, as it reduces SDS's reliance on New sales revenues and provides stability for the future. As the interest in Riaktr's products, Smart S&D, and Smart Capex continues to grow, along with continued New sales, we anticipate that recurring revenues will increase and make up a larger proportion of total revenues. As SDS's revenues increasingly shift towards recurring revenues, we expect to see improved margins and enhanced stability, which will make SDS a more attractive investment opportunity moving forward.

Following SDS's Q1 report, the company has announced four new order wins, totaling SEK9.3m in value. Among these wins, the largest order amounts to SEK3m and involves providing technical support and resources to enhance the customer's existing mobile services and mobile payment platform. The customer operates in Djibouti, and revenue recognition for this order will be distributed gradually until Q2 2024.

The second-largest order worth SEK1.5m through Riaktr, specifically for its advanced analytics solution, the Smart Sales and Distribution product (Smart S&D). This product enables the customer to centrally analyze their commercial performance, prioritize field visits, and enhance salesforce productivity. Out of the SEK1.5m order, SEK0.8m is allocated as an installation fee, while SEK0.7m represents annual recurring revenue. The installation revenue will be recognized over the next two quarters, while the license fee will generate recurring quarterly revenue once the solution is live and actively used by the customer.

The smallest order (SEK0.8m) that has been announced is related to SDS's new product, "My Next POS," which is also one of Riaktr's products and part of SDS's advanced analytics offering. This product allows companies to optimize the placement of their point of sales and maximize profitability through advanced data analytics of customer behavior and sociodemographic factors. The company also mentioned that there has been strong demand from potential customers, which is a positive sign. Additionally, since the product can be combined with Smart S&D, we expect that both products will support each other and potentially create switching costs for customers, benefiting SDS in the long term.

Moreover, we are glad that SDS manages to bring new products to the market, and this accomplishment is noteworthy, considering that advanced analytics products typically yield higher proportions of recurring revenues and margins. It is also an encouraging sign that the market continues to embrace and show interest in this product category, further solidifying its momentum and potential for growth.

In conjunction with discussion with bondholders, SDS also provided an outlook for 2023e where it has budgeted net sales of SEK216m and an EBITDA of SEK72m (SEK42m if capitalized R&D is excluded). The figures exclude SDD. SDS expects to have a net debt of approximately SEK147m at the end of 2023. The outlook can be compared to our estimates, where we expect cSEK215m in sales and cSEK46m in EBITDA for the group excluding SDD and including capitalized R&D.

On the back of the report, we have made minor adjustments to our sales estimates, now projecting somewhat higher recurring revenues. Considering the favorable margin profile associated with these revenues, we have also raised our margin assumptions accordingly. Although the quarter exceeded our sales expectations by 6%, it is important to acknowledge that SDS's project-based business can introduce volatility to its sales figures. Consequently, we do not extrapolate this relatively high growth rate into the future.

Instead, we adopt a prudent approach and project total sales of SEK280m, with the SDS segment contributing SEK215m. Accordingly, we believe the company stands a good chance of achieving its full-year sales forecast of SEK216m. Overall, we have increased our EBITDA estimates by 9% for 2023, and by 6-5% for the years 2024 and 2025, respectively.

Although the growth rate for 2024e-2025e may appear conservative, it is largely influenced by the anticipated negative growth of around 15% in the SDD business. However, we expect the growth in the SDS business to offset this decline. While SDD operates with relatively low margins, we anticipate that the sales from the SDS business will contribute to overall margins and offer scalability. As a result, we expect a gradual improvement in margins in the coming years, even with a flat top-line growth.

We derive our fair value range from a fundamental DCF framework for three scenarios, base case (most likely), bear case (pessimistic), and bull case (optimistic), using a WACC of 12.5% across all scenarios.

Sales CAGR 2023-2027e of -1% and 2027e-2032e of 3%
Avg. EBIT-m 2023-2027e of 10% and 2027e-2032e of 20%
Terminal growth of 2% and a terminal EBIT-m of 25%
WACC: 12.5%

Sales CAGR 2023-2027e of 1% and 2027e-2032e of 4%
Avg. EBIT-m 2023-2027e of 17% and 2027e-2032e of 25%
Terminal growth: 2% and a terminal EBIT-m of 30%
WACC: 12.5%

Sales CAGR 2023-2027e of 6% and 2027e-2032e of 7%
Avg. EBIT-m 2023-2027e of 18% and 2027e-2032e of 30%
Terminal growth: 2% and a terminal EBIT-m of 35%
WACC: 12.5%