Hexatronic: Lowering our Q4 and 2024 Forecasts
Research Update
2023-11-22
09:14
Redeye lowered its forecasts and Base Case following Hexatronic’s downgrade of its short-term guidance. The market environment, particularly for duct in the US and FTTH in Germany, weakened further during November. While we believe the long-term case still has substantial potential, low visibility and uncertainty in our forecasts motivate a higher risk premium.
FN
RJ
Fredrik Nilsson
Rasmus Jacobsson
Contents
Demand Worsening During November
Limited Visibility Motivates a Higher Risk Premium
Lowered Forecasts for Q4 and 2024
Financial Position Still in Healthy Territory
New Base Case SEK37 (62) – Long-term Potential Still Substantial
Investment thesis
Quality Rating
Financials
Rating definitions
The team
Download article
SEKm | 2022 | 2023e | 2024e | 2025e | 2026e |
Revenues | 6,574.0 | 8,048.0 | 7,447.6 | 8,282.8 | 9,230.4 |
Revenue Growth | 88.3% | 22.4% | -7.5% | 11.2% | 11.4% |
EBITDA | 1,235.9 | 1,444.4 | 1,054.4 | 1,322.4 | 1,603.0 |
EBIT | 1,027.6 | 1,115.6 | 687.3 | 956.7 | 1,253.9 |
EBIT Margin | 15.6% | 13.9% | 9.2% | 11.5% | 13.6% |
Net Income | 793.0 | 729.7 | 420.4 | 630.5 | 862.4 |
EV/Revenue | 4.6 | 0.7 | 0.7 | 0.6 | 0.4 |
EV/EBIT | 29.3 | 5.3 | 7.7 | 4.9 | 3.2 |
Yesterday, Hexatronic downgraded its short-term guidance and initiated a cost-savings program (saving SEK90m annually, with full effect from Q2 2024). Hexatronic now expects an EBITA margin of 12-14% for H2 2023, compared to the 15-17% stated in conjunction with the Q3 report on 27 September. Also, it expects weaker organic sales growth in Q4 compared to Q3, which had an organic growth of -13%. The downgrade is mainly due to weaker demand in the US duct business and FTTH in Germany. Thus, the factors that caused the soft Q3 report have worsened further. In addition to the lower demand in general, some customers are optimizing their inventories, and there are also rough indications of some customers postponing projects to await the BEAD funds.
On the other hand, the US FTTH business continues to do relatively well, in contrast to most peers, which, however, typically is exposed to different customer segments than Hexatronic. Also, the Data Center and Harsh Environment segments continue to see robust demand.
While we believe the sharp decline in the share price, to an extent, is related to lowered confidence in management, our view is that the swift changes in guidance are related to fast-changing markets and limited visibility. Although management cannot do much about the nature of its markets, we believe limited visibility into future demand and earnings motivates a higher risk premium. Considering the limited visibility and the softer financial performance, we have lowered our Financial Redeye Rating from 4 to 3, resulting in a c1% increase in WACC to 10%.
Despite the slight forecast cut we made last week following softer outlooks from US FTTH peers, management’s downgrade short-term guidance motivates further reductions for Q4 and 2024. The Q3 EBITA margin of 15.4% and management guidance of 12-14% for H2 2023 implies an EBITA margin of c8-12% in Q4. We forecast 9.1% for Q4, implying an H2 2023 EBITA margin of 12.4% - somewhat below the mid-range of the guidance.
Regarding sales, we expect a negative organic growth of 28% in Q4, aligning with management’s wide guidance of lower organic growth than in Q3. As some important parts of the business perform well, we do not expect very significant negative organic growth in the 40% range or above, as seen in the guidance of some peers.
For 2024, we expect negative organic growth until Q3, with gradual improvements. In total, we forecast a negative 14% organic growth in 2024. We assume an EBITA margin of 10.8% impacted by a soft Q1, followed by c11-11.5% in Q2-Q4 due to the SEK90 cost savings program and some improvements in the market in Q4 2024.
Management expects a small effect from the BEAD in 2024 and accelerating contributions in 2025 and 2026.
According to our estimates, Hexatronic has a net debt to EBITA of 1.9x 2023e and 2.1x 2024e. While we expect a positive cash flow in 2024, following the expected decline in EBITA in 2024 relative to 2023, we forecast a slight increase in net debt to EBITDA in 2024. However, we believe 2.1x is reasonable, implying no need for additional capital. Also, according to management, the current net debt to EBITDA is substantially below its current covenants.
However, in a hypothetical significant further worsening of the market, assuming a 7% EBITA margin and -27% organic growth in 2024, the net debt to EBITA increases to 4.0x. In such a scenario, we believe additional capital will probably be on the table.
Overall, we believe the risk of Hexatronic needing additional funds is limited. Given our current forecasts, we see no need for additional capital. However, a significant further worsening of the market could cause the need for additional funds, but that is not our Base Case scenario.
Following our lowered expectations for primarily Q4 and 2024 and a slightly higher WACC, we lowered our Base Case to SEK37 (62). While the uncertainty in our forecasts for Q4 and 2024 is high – which yesterday’s news highlights – we believe the long-term case still has substantial potential. Management has a strong track record of value-adding M&A and expansion into new markets. The list of drivers for fibre-based digital infrastructure is long – Remote work, cloud, AI, digital health, and streaming to name a few. We expect the market to stabilize in 2024 and forecast a rebound in 2025, partly fueled by BEAD and other government support. On the other hand, considering our forecasts’ low visibility and uncertainty, we believe a higher risk premium is motivated.
Estimate Revisions | ||||||
Sales | FYE 2023 | Old | Change | FYE 2024 | Old | Change |
Net Sales | 8048 | 8249 | -2% | 7448 | 8209 | -9% |
Y/Y Growth (%) | 22% | 25% | -7% | 0% | ||
Sweden | 709 | 709 | 0% | 702 | 702 | 0% |
Growth y/y (SWE) | -12% | -12% | -1% | -1% | ||
Rest of Europe | 3830 | 3957 | -3% | 3753 | 4269 | -12% |
Growth y/y (EU) | 30% | 35% | -2% | 8% | ||
North America | 2789 | 2862 | -3% | 2219 | 2461 | -10% |
Growth y/y (NA) | 26% | 29% | -20% | -14% | ||
Rest of the World | 722 | 722 | 0% | 774 | 777 | 0% |
Growth y/y (RotW) | 18% | 18% | 7% | 8% | ||
Other operating income | 89 | 89 | ||||
Costs | ||||||
Gross Profit | 3476 | 3579 | -3% | 3081 | 3476 | -11% |
Gross Margin | 43.2% | 43.4% | 41.4% | 42.3% | ||
OPEX | -2121 | -2116 | 0% | -2106 | -2173 | -3% |
Growth y/y | 25.5% | 25.2% | -0.7% | 2.7% | ||
Earnings | ||||||
EBITA | 1226 | 1333 | -8% | 803 | 1136 | -29% |
EBITA Margin (%) | 15.2% | 16.2% | 10.8% | 13.8% | ||
Diluted EPS | 3.55 | 3.96 | -10% | 2.05 | 3.31 | -38% |
Forecasts | ||||||||
Sales | Q1A 2023 | Q2A 2023 | Q3A 2023 | Q4E 2023 | FYE 2023 | FYE 2024 | FYE 2025 | FYE 2026 |
Net Sales | 2115 | 2258 | 1917 | 1758 | 8048 | 7448 | 8283 | 9230 |
Y/Y Growth (%) | 52% | 36% | 11% | -2% | 22% | -7% | 11% | 11% |
Sweden | 178 | 176 | 165 | 190 | 709 | 702 | 716 | 730 |
Growth y/y (SWE) | 15% | -28% | -15% | -12% | -12% | -1% | 2% | 2% |
Rest of Europe | 998 | 1099 | 893 | 840 | 3830 | 3753 | 4129 | 4542 |
Growth y/y (EU) | 55% | 47% | 19% | 5% | 30% | -2% | 10% | 10% |
North America | 752 | 828 | 671 | 538 | 2789 | 2219 | 2618 | 3089 |
Growth y/y (NA) | 73% | 58% | 4% | -12% | 26% | -20% | 18% | 18% |
Rest of the World | 187 | 156 | 188 | 191 | 722 | 774 | 820 | 869 |
Growth y/y (RotW) | 20% | 7% | 34% | 11% | 18% | 7% | 6% | 6% |
Other operating income | 23 | 22 | 24 | 20 | 89 | 80 | 80 | 80 |
Costs | ||||||||
Gross Profit | 945 | 995 | 812 | 724 | 3476 | 3081 | 3479 | 3923 |
Gross Margin | 44.7% | 44.1% | 42.4% | 41.2% | 43.2% | 41.4% | 42.0% | 42.5% |
OPEX | -555 | -558 | -484 | -524 | -2121 | -2106 | -2236 | -2400 |
Growth y/y | 49% | 37% | 15% | 7% | 25% | -1% | 6% | 7% |
Other operating income | 23 | 22 | 24 | 20 | 89 | 80 | 80 | 80 |
Earnings | ||||||||
EBITA | 365 | 405 | 296 | 161 | 1226 | 803 | 1073 | 1370 |
EBITA Margin (%) | 17.3% | 17.9% | 15.4% | 9.1% | 15.2% | 10.8% | 13.0% | 14.8% |
Diluted EPS | 1.09 | 1.27 | 0.85 | 0.36 | 3.55 | 2.05 | 3.07 | 4.20 |
Case
Pole position in the boom for digital highways.
Evidence
Proven track record in several major markets with its easy-deployed high-quality system solutions.
Challenge
Boom and bust FTTH cycle put risks to the very long-term.
Challenge
Possible price pressure.
Valuation
Base Case of SEK 37 implies ~11.5x EBITA 2024E
People: 4
Hexatronic has a strong management team of entrepreneurial people with plenty of skin in the game. CEO has significant experience from the telecom industry. Staff at other key positions, that joined the group through last year's acquisitions, are also intact. The company has delivered so far on their financial goals.
Business: 4
Due to the competitive situation, product differentiation appears to be difficult, thus the price will always be an issue. Hexatronic is a small player compared to some of the dominant multinational companies. Surely that means growth opportunities but also challenges.
Financials: 3
In our view, Hexatronic is very financially stable and receives a good score in most subcategories. Overall we view Hexatronic's profitability levels as compelling and improving. We see some risks for new rights issues given the strong focus on acquisitions, still if the acquisition is done at good prices and creates value this will not be an issue.
Disclosures and disclaimers
Contents
Demand Worsening During November
Limited Visibility Motivates a Higher Risk Premium
Lowered Forecasts for Q4 and 2024
Financial Position Still in Healthy Territory
New Base Case SEK37 (62) – Long-term Potential Still Substantial
Investment thesis
Quality Rating
Financials
Rating definitions
The team
Download article