Buy Calian Group on the dip, says Echelon Capital

His target has been lowered but Calian Group (Calian Group Stock Quote, Chart, News TSX:CGY) is still a “Buy,” says Echelon Capital Markets analyst Amr Ezzat, who delivered a research update to clients on Wednesday where he reviewed the company’s recent quarterly numbers.

Ottawa-headquartered Calian Group, which provides business and technology services to industry and government in the areas of health, IT, learning and advanced technologies, released on Tuesday its fiscal fourth quarter and full 2020 results for the period ended September 30.

The company hit a record quarterly revenue for the ninth consecutive quarter with a topline up 35 per cent year-over-year to $123 million, while revenue for the fiscal 2020 was up 26 per cent to $432 million. Adjusted EBITDA increased 13 per cent for the Q4 to $9.2 million and increased 36 per cent for the year to $36.8 million.

The company said it posted new contract signings of $111 million over the quarter and finished with $24.2 million in cash and zero debt, down from $46.3 million in cash and zero debt for the previous quarter. Free cash flow was a negative $20.2 million, including a $10.2-million drag in working capital and $18.9 million in acquisitions.

“Organic growth was strong at 21 per cent in the twelve-month period, led by our Health and Advanced Technologies segments. Our profitable growth objective was also evident as we grew EBITDA by 36 per cent thanks to increased volume and scaling our business efficiently,” said Kevin Ford, President and CEO, in a press release. “We completed four acquisitions in 2020, three of them in new market verticals in which Calian did not previously participate. M&A has played an important role in all four of our segments by bringing in new customers and new technologies aligned to our growth strategy.”

With the Q4 report, Calian announced guidance for fiscal 2021, saying that the new year will see the company maintain its growth profile. Management called for revenue to arrive between $450 and $460 million, adjusted EBITDA between $38.5 and $42.0 million and adjusted net profit between $25.2 and $28.3 million.

“I believe our diversified segments with a mix of domestic and global customers positions us well to navigate through the challenges created by COVID while continuing to execute our growth strategy,” said Ford.

Calian has been a strong performer over the past couple of years, returning 82 per cent since the start of 2019, but after hitting the $70 mark in mid-October, the stock has been on a slide, punctuated by Wednesday’s eight-per-cent drop after the release of the Q4 results.

But the pullback is a good opportunity for investors, says Ezzat, who says the lower profit margins over the fourth quarter — what he called ‘the fly in the ointment’ — should be temporary.

In his report, Ezzat noted the segmented Q4 revenue, with Advanced Technologies up 19.5 per cent year-over-year on progress on a large North American ground systems project and increases in volumes of a new mobile wireless product to a Tier 1 North American mobile operator, while Health was up 81.7 per cent on increases in scope for existing contracts, a new contract with SNC-Lavalin PAE, contributions from Alio Health and from acquisitions.

Gross margins were down from a year earlier due to higher costs on Calian’s North American satellite ground system project, with Ezzat saying the company’s fiscal 2021 guidance intimates continued short-term weakness. At the same time, Ezzat said that’s likely a temporary issue.

“While disappointing, we note that the cost overruns appear to be related to COVID-19 hurdles (i.e., not perpetual in nature). We thus view the stock pullback as an opportunity to consolidate a position in a quality operation with secular tailwinds,” Ezzat said.

The analyst has revised his estimates, now calling for fiscal 2021 sales of $462.0 million (previously $485.6 million) and EBTIDA of $41.8 million (previously $45.9 million).

Ezzat has maintained his “Buy” rating and lowered his target price from $77.00 to $75.00, which at press time represented a projected 12-month return of 37.3 per cent.

“We recently reinstated coverage of Calian. The Company is a quality diversified operation with a deep bench, an under-leveraged balance sheet and a solid track record of value creation through acquisition and innovation,” Ezzat wrote.

“CGY has all the bells and whistles an investor would seek out in a quality company. The stock has tripled in the last three years, as management transitioned its philosophy and growth strategy from what was a ‘steady Eddie’ operator with stable revenues/earnings, to one seeking to capitalize on growth in a more aggressive fashion,” Ezzat said.

“We argue that the Street has consistently underestimated valuation by failing to recognize the accretion potential of M&A on Calian’s earnings and more importantly on its valuation. We believe using an EBITDA/earnings multiple on short-term earnings estimates significantly (and incorrectly) undervalues Calian’s shares as it gives no recognition to the Company’s inorganic growth activity (and indeed, its under-leveraged balance sheet),” he wrote.