Netcall is becoming more profitable as it increases revenue

Customer service software company Netcall’s (NET) profit margin has expanded as it continues to steadily grow revenue.

Netcall allows companies to build chat bots and sales management platforms, as well as analyse their sales data. In the half-year to December, total annual contract value (ACV) rose 14 per cent to £30.1mn. This was driven by its cloud product, which grew ACV by 19 per cent to £20.3mn.

ACV is an important metric as it is forward looking and shows that existing customers are happy to keep spending on the software. The better news is that for a small company Netcall is already quite profitable, and as the company scales it will benefit from operational leverage. Correspondingly, operating profit grew 42 per cent to £3.47mn.

A good software business will look to have a combined growth rate and cash profit (Ebitda) margin of 40 per cent. At Netcall, if you combine the 14 per cent ACV growth with the 26 per cent Ebitda margin you get exactly 40 per cent. This, though, is reflected in the expensive FactSet consensus forward price/earnings ratio of 29 times.

There is a good case that it will grow into this valuation, though. Operating cash conversion above 100 per cent will help Netcall keep investing for growth, and it has recently acquired UK cloud software company Skore, which will create more cross-selling opportunities.

Research and development spend is above 10 per cent, which is good for a software business. Meanwhile, rising labour costs should push companies to look for further ways to automate and cut costs. We stick to buy.

Last IC View: Buy, 84p, 11 Oct 2023