Decisive Software Shift Powers Profitability Amid Hardware Challenges

Key Takeaways

• Transitioning to software-based solutions and cost reduction initiatives are enhancing profitability and operating efficiency.
  
• Emphasis on high-margin software growth is set to boost future earnings and overall financial performance.
  
• Despite strong subscription growth, declining hardware sales and increased churn could negatively impact revenue growth, net earnings, and profitability.

Catalysts

Designs, develops, and markets digital solutions for identity, authentication, and secure digital agreements worldwide.

• The significant increase in subscription revenue, particularly with a growth rate of 29%, is expected to impact future revenue positively as the company transitions to a higher-margin software-based model.
  
• The profitability achieved by both business units, with the Digital Agreements segment becoming profitable for the first time on a fully burdened basis, is likely to improve net margins as the company moves towards more efficient operations.
  
• The successful completion of multiyear cost reduction initiatives, resulting in substantial cost savings of $3 million during the third quarter and $76.5 million cumulatively, will enhance future earnings by improving operating profitability.
  
• The focus on growing higher-margin software revenue, which already has led to improvements in gross profit margins, is expected to further boost net margins and earnings in the long term.
  
• The strategic transition from lower-margin hardware to more profitable software solutions within the Security segment, coupled with decreased hardware dependence over time, is anticipated to positively impact future revenue and margins.

OneSpan Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming OneSpan's revenue will grow by 3.6% annually over the next 3 years.
• Analysts assume that profit margins will increase from 11.7% today to 20.3% in 3 years time.
• Analysts expect earnings to reach $55.3 million (and earnings per share of $1.24) by about November 2027, up from $28.7 million today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 16.7x on those 2027 earnings, down from 21.9x today. This future PE is lower than the current PE for the US Software industry at 35.5x.
• Analysts expect the number of shares outstanding to grow by 5.46% per year for the next 3 years.
• To value all of this in today's dollars, we will use a discount rate of 6.69%, as per the Simply Wall St company report.

OneSpan Future Earnings Per Share Growth

Risks

• Despite strong subscription revenue growth, overall revenue declined by 4% due to an anticipated decline in hardware sales, which could negatively impact total future revenues.
  
• There is increased churn related to end-of-life products and typical customer churn, which might impact ARR and net margins.
  
• The company is facing challenges in its hardware division, with projections of continuing declines in hardware revenues, which could impact revenue growth and net earnings.
  
• Potential positive revenue impacts from channel partners are not expected for several quarters, indicating possible delays in revenue acceleration.
  
• While there are cost reduction initiatives, sustaining high margins in the face of shrinking hardware revenues and increasing typical churn may be challenging, impacting net margins and overall profitability in the future.

Valuation

• The analysts have a consensus price target of $17.33 for OneSpan based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $19.0, and the most bearish reporting a price target of just $15.0.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be $272.6 million, earnings will come to $55.3 million, and it would be trading on a PE ratio of 16.7x, assuming you use a discount rate of 6.7%.
  
• Given the current share price of $16.55, the analyst's price target of $17.33 is 4.5% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
  
• 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.