Shifting To Recurring Revenue And Cloud Solutions Ignites Sustainable Growth And Profitability

Key Takeaways

• Strategic focus on recurring revenue contracts and efficiency gains are driving long-term growth and improving overall profitability.
  
• International expansion and capitalizing on cloud migration present significant opportunities for increasing revenue and market share.
  
• Strong reliance on equipment sales and expansion efforts could impact financial stability and necessitate a strategic shift towards recurring revenue models.

Catalysts

Provides data management and cloud solutions in the United States and internationally.

• The strategic focus on recurring revenue contracts is anticipated to build a more sustainable and predictable revenue base, which is essential for long-term growth and stability, impacting future revenue stability and growth.
  
• The gross profit margin increase to 49% in the second quarter of 2024 from 43.7% in the same period last year reflects efficiency gains and could significantly impact net margins by improving overall profitability.
  
• International expansion into the UK market presents an opportunity to tap into a new customer base, with over 50,000 companies operating between the USA and the UK, potentially significantly increasing revenue and market share.
  
• Capitalizing on the IBM cloud migration and demand for cloud hosting, disaster recovery, and cybersecurity solutions can drive revenue growth as businesses continue to prioritize cloud-based infrastructure solutions.
  
• The strong financial position with $12 million in cash and marketable securities and no long-term debt gives the company flexibility to invest in growth opportunities, supporting potential revenue and earnings growth without diluting shareholder value.

Assumptions

• Analysts are assuming Data Storage's revenue will grow by 10.4% annually over the next 3 years.
• Analysts assume that profit margins will increase from 0.9% today to 18.0% in 3 years time.
• Analysts expect earnings to reach $6.1 million (and earnings per share of $0.84) by about November 2027, up from $216.9 thousand today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 12.6x on those 2027 earnings, down from 112.2x today. This future PE is lower than the current PE for the US IT industry at 44.5x.
• Analysts expect the number of shares outstanding to grow by 1.5% per year for the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 7.08%, as per the Simply Wall St company report.

Risks

• The company's reliance on one-time equipment sales for its revenue, which can be unpredictable and impact long-term revenue stability.
  
• The expansion into the U.K. market involves significant upfront costs and execution risks, which could affect net margins if the expected revenue growth does not materialize.
  
• An increase in selling, general, and administrative expenses, primarily due to advertising and international expansion efforts, could impact net income and earnings if revenue growth does not offset these costs.
  
• The dependency on equipment sales with relatively lower margins compared to subscription services could negatively affect overall profit margins.
  
• The shift towards focusing on annual recurring revenue (ARR) and moving away from one-time equipment sales requires a successful transition strategy to avoid potential short-term revenue and cash flow issues.

Valuation

• The analysts have a consensus price target of $9.0 for Data Storage based on their expectations of its future earnings growth, profit margins and other risk factors.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $34.1 million, earnings will come to $6.1 million, and it would be trading on a PE ratio of 12.6x, assuming you use a discount rate of 7.1%.
• Given the current share price of $3.48, the analyst's price target of $9.0 is 61.3% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.