Time to buy Descartes Systems, says Laurentian Bank

Record quarterly revenues keep Laurentian Bank Securities analyst Nick Agostino feeling good about Descartes Systems Group (Descartes Systems Group Stock Quote, Chart, News, Analysts, Financials TSX:DSG). Agostino reiterated his “Buy” rating and target share price of $88/share for a projected one-year return of 22.6 per cent in an update to clients on Thursday.

Founded in 1981 and headquartered in Waterloo, Ont., Descartes Systems Group is a Canadian multinational technology company specializing in logistics software, supply chain management software and cloud-based services for logistics businesses. Agostino’s latest analysis comes after the company reported fourth quarter financial results for its 2022 fiscal year, along with year-end results.

“We believe the company’s focus on front-end distribution capabilities to increase cross-selling with more of a focus on a customer-centric rather than a geography-based approach is already yielding benefits to the top-line,” Agostino said. “While the pandemic has been a positive tailwind for DSG along with Brexit, we believe tailwinds may be further extended with tariffs/duties associated with the current geopolitical unrest offering new growth potential.”

The company’s financial highlights for the quarter were headlined by $112.4 million in revenue, marking a 20.3 per cent year-over-year increase and 3.2 per cent sequential growth while staying in line with the Laurentian Bank estimate of $113.8 million and the consensus target of $111 million. (All figures in US dollars.)

Services accounted for $99.5 million in revenue for the company in the quarter and 88.6 per cent of the company’s revenue mix, slightly below the Laurentian Bank estimate of $101.8 million. However, the services shortfall was made up by a beat on professional services and other, which came in at $11.7 million and 10.4 per cent of the revenue mix to beat the $10.5 million Laurentian Bank projection.

Descartes’ 77.4 per cent gross margin was dead on with Agostino’s estimate and represented an uptick from the 76.8 per cent margin reported in the same quarter of 2021, though it is down sequentially from the 77.8 per cent margin in the last quarter.

Meanwhile, the company’s adjusted EBITDA also produced a slight beat at $50.1 million and a 44.6 per cent margin to come out ahead of the Laurentian Bank projection of $48.6 million and a 42.7 per cent margin, while providing growth from the $48.2 million and 44.2 per cent margin from the previous quarter.

“Changes in geopolitical and economic environments create complexity and uncertainty for our customers,” said Edward J. Ryan, Descartes’ CEO in the company’s March 2 press release. “Inflationary pressures and international sanctions/restrictions, among other things, add to the challenges faced by today’s supply chain participants. Our Global Logistics Network and various compliance solutions help our customers understand and comply with sanctions, adapt to rapidly shifting regulatory conditions, and quickly make cost-effective changes in their supply chains. We continue to leverage our experience and financial position to grow our Global Logistics Network for the benefit of our customers, such as the recent addition of NetCHB to our business.”

With Descartes ending its fiscal year with $424.7 million in revenue, Agostino made some revisions to his future-looking financial estimates, lowering his revenue estimate for the first quarter of 2023 from $119 million to $114.5 million, contributing to a lower overall 2023 projection of $490.9 million (previously $501 million), which still presents a potential year-over-year increase of 15.6 per cent. Agostino also introduced 2024 estimates, with the $562.9 million target representing a potential year-over-year increase of 14.7 per cent.

In terms of valuation, Agostino projects the company’s EV/Sales to drop from 13.9x in 2022 to 12x in 2023, then to 10.5x in 2024.

Agostino’s adjusted EBITDA guidance shows minimal change, with the monetary figures dropping slightly in 2023 ($217.3 million to $216.7 million), but the adjusted EBITDA margin going up slightly (43.4 per cent to 44.1 per cent) for the year.

Looking at the new 2024 projections, Agostino forecasts the company will bring in $250.6 million in adjusted EBITDA, which implies a margin of 44.5 per cent.

From a valuation perspective, Agostino forecasts the company’s EV/EBITDA to drop from 31.8x in 2022 to 27.2x in 2023, then to a projected 23.5x in 2024.

“DSG continues to show that ongoing global supply chain challenges present tailwinds that benefit its business, with the emerging geopolitical situation offering another opportunity that could benefit F2023,” Agostino said. “Longer-term, we expect organic growth to revert closer to the norm, requiring DSG to focus on more and/or larger M&A deals for growth.”

Sustained momentum has driven the Descartes stock price up 17.4 per cent over the last 12 months, though investors who added Descartes to their portfolio at the start of 2022 have experienced an 11.9 per cent loss. Descartes’ climb began shortly after hitting a 52-week low of $69.40/share on May 27, eventually reaching a 52-week high of $114/share on November 17.