Enghouse Systems could drop further, says Stephen Takacsy

Canadian enterprise software company Enghouse Systems (Enghouse Systems Stock Quote, Chart, News, Analysts, Financials TSX:ENGH) has been on quite the slide over the past 12 months, as the market has moved past this COVID-19 play, but has the selloff now gone too far? Maybe not, says portfolio manager Stephen Takacsy of Lester Asset Management, who thinks investors might want to wait a bit longer before buying this tech stock.

“We’ve looked at Enghouse a couple of times over the years, but the valuation just got sky high. Of course, that makes a stock vulnerable to the downside, and we’ve seen the company trip up a little bit,” said Takacsy, speaking on BNN Bloomberg on Wednesday.

Enghouse was the belle of the ball last spring when investors turned their eyes toward companies built for success amid pandemic lockdowns and the stay-at-home economy. That fits Enghouse to a T, as the acquisitive tech company has assets in areas such as contact centres, unified communications and video collaboration along with telecom service provider software and GIS, supply chain and fleet management software, all of which proved crucial to economies during COVID-19.

The proof was in the pudding, with Enghouse’s revenue growing by 31 per cent for its last fiscal year, the company’s 2020 ended October 31, 2020, to $503.8 million. Earnings grew by almost 40 per cent, too, with net income climbing to $98.6 million or $1.77 per share.

And while ensuing quarters have also been positive, the year-over-year comparative measures haven’t looked so hot, simply because growth was so strong over the first half of 2020.

Witness Enghouse’s latest quarterly results, the company’s fiscal second quarter delivered in early June. There, revenue was down 17 per cent year-over-year to $117.3 million, net income fell by 23 per cent to $20.7 million and adjusted EBITDA dropped 18 per cent to $40.2 million.

Management explained the drop as a consequence of the company’s own success early on in 2020.

“Although revenue achieved for the quarter was $117.3 million, compared to record revenue of $140.9 million in the same period in the prior year, Enghouse continues to generate positive cash flows, operating income and profitability,” the company said in a June 10 press release.

“The decline in revenue was driven primarily by the previous year’s significant increase in our Vidyo business that has now returned to levels that are more consistent with pre-COVID volumes,” Enghouse said.

The company’s stock has also come down a long way from its early pandemic highs. Where ENGH returned 50 per cent over the first half of 2020, climbing from a pre-pandemic high of $55 to almost $78 by early July, 2020, the past 11 months have given back virtually all of those gains, with ENGH now trading again just below the $55 mark.

“They’re very acquisitive and they have to integrate and migrate their software solutions to the cloud,” said Takacsy. “They’re basically focused on call centres and transportation. And they stumbled a little bit on this Vidyo acquisition that they made last year.”

“It’s still trading at five to six times revenues which is very rich in our minds, so there may still be downside. That’s the problem, you just never know when things are priced for perfection,” he said.

On the M&A front, Enghouse has made a couple of recent purchases, first in acquiring Portuguese contact centre company Altitude Software and then recent tuck-in Nebu BV of the Netherlands.

But management has said that the terrain for acquisitions is looking a little more difficult to travel, which could mean less activity by ENGH going forward.

“The acquisition pipeline is strong, which is positive, although the company values looking to be acquired have increased with strong public markets, low interest rates, and stimulus that makes it a little tougher to do deals within our financial parameters, but opportunities are not getting done at these higher levels in our marketplace,” said Enghouse CEO Stephen Sadler in the fiscal Q2 2021 earnings call.

“As a result, opportunities are taking a little longer to be successfully completed,” he said. “We continue to maintain our financial discipline when reviewing acquisition opportunities. We believe higher global taxes and the possibility of increasing interest rates, or provide significant opportunities within our financial parameters.”

Takacsy says buying Enghouse at current levels is not out of the question but he would still be waiting a while longer before committing.

“The management team is good and they’re in an interesting space, but there is a lot of competition,” Takacsy said. “It’s not something we would buy at this time because we just don’t know where the bottom is at this point.”

“But if it got cheap enough I think we would probably look at it,” he said.