Adjusting for last December's acquisition of Route Monkey, like-for-like orders have increased by 27 per cent in the first five months of the new financial year, buoyed by an initial four-year contract with Scottish Power to supply fleet tracking and driver behaviour solutions for 1,608 vehicles, and an initial contract with German insurer Allianz for 5,000 devices.
And this strong order intake has boosted the number of telematics units reporting to the company's servers by 12 per cent to 169,000 since the March year-end. This reflects a 7,000 increase in fleet telematics units used by Trakm8's 2,300 commercial customers, a part of the business that accounts for 66,000 units, and an 11,000 increase in insurance telematics devices to take the total there to 103,000. Around half the additions to the fleet business came from Trakm8's acquisition of Roadsense last month, so the current run rate is actually around 4,200 units for the full year.
There were more additions to the fleet side of the business than analyst Lorne Daniel at brokerage finnCap had predicted, but fewer insurance units. That's actually positive as fleet business is higher margin, albeit new orders incur higher upfront costs and are often sold on a discount (with initial monthly discounted rates or free periods) before building up higher monthly recurring revenue. By contrast, insurance orders are lumpy by their nature, and produce little in the way of recurring revenue, but bring immediate revenue and profits to be booked.
The point being that having incurred the hardware and installation costs on the raft of new orders won in the first five months of this year, one would expect Trakm8's margins in the second half to reflect the build of recurring monthly revenues. I would point out that there is a delay between orders being received and revenue being booked on full deployment of the telematics with customers' fleets, so there is a heavy second-half weighting to the numbers especially as units build over the course of the year. This was the case last year, too. As a result, first-half profit is likely to be less than in the same period last year when Trakm8 reported adjusted pre-tax profit of £1.45m, but with orders already booked then expect the profits from these sales to be reflected in a very strong second half.
Impact on forecasts
In terms of forecasts, the fall in sterling against the euro and US dollar since the EU referendum has had an impact, adding £500,000, or around 3 per cent to Trakm8's cost of sales of £17m for the current financial year to the end of March 2017. The company sources electrical components from global manufacturers, mostly in the Far East, and is unable to pass this added cost onto clients given the competitive nature of the industry. The flip-side is that if sterling continues to recover its losses on much better than expected economic data, then there is scope for this cost pressure to ease.
Mr Daniel is sensibly taking the view that the full £500,000 extra cost will be incurred and has reduced his gross profit forecast from £17.1m to £16.6m on revenue estimates of £34m, albeit increasing overseas sales would partially mitigate component cost pressure, something that Trakm8's management is optimistic of achieving. But ignoring that possibility, there is an identical cut to both finnCap's operating profit and pre-tax profit estimates of £6.4m.
Still, if Trakm8 delivers full-year pre-tax profit of £5.9m, up from £3.8m in the prior year, that equates to a 25 per cent rise in full-year EPS to 15.7p, and means the shares are only being rated on 13 times current-year earnings estimates. That's hardly a punchy valuation for a tech company that more than doubled earnings last year, and continues to post solid underlying growth.
True, embedded in finnCap's forecasts is a second-half profit of at least £4.45m. That's three times higher than the first-half outcome and more than 50 per cent higher than the £2.35m reported in the second half to the end of March 2016. Given this hefty bias to the numbers, it's important that the company maintains a healthy run rate of new orders as has been the case in the financial year to date. It's reassuring to note that guidance from Trakm8's management team is that there has been "no impact on customer confidence in terms of our sales activity and order pipeline" following the EU referendum.
Moreover, the company continues to build its recurring revenues on its installed base of customers, a highly profitable part of the business. In fact, I understand from analysts that if telematics companies stopped selling and relied on their installed base, then their gross margins would be approaching around 90 per cent given the minimal costs incurred in servicing the needs of these clients.
Valuation
Trakm8's shares had a volatile ride yesterday, initially falling from the 225p level at which I last recommended buying ('Business as usual', 13 Jul 2016) to test the key 180p support that has held all this year, before rallying strongly back to around opening price of 215p by the close.
True, a higher second-half weighting to profits adds risk, but equally if the company achieves the revised forecasts - and remember they have only been revised down due to sterling weakness rather than a shortfall in orders - then a forward PE ratio little over half forecast earnings growth is an attractive rating to me. There is a small dividend yield of 1 per cent, too.
So, having initiated coverage at 92p just over 18 months ago ('Zoning in on a profitable price move', 16 Feb 2015), I feel comfortable maintaining my buy recommendation ahead of the next trading update in late November when the company reports its half-year numbers. Buy.
