Weaker than expected quarterly numbers are making Paradigm Capital analyst Corey Hammill see less promise in DIRTT Environmental Solutions (DIRTT Stock Quote, Chart, News, Analysts, Financials TSX:DRT). The analyst downgraded DIRTT from a “Buy” rating to a “Hold” and slashed his target price from C$3/share to C$1.30/share for a potential return of 11 per cent in an update to clients on Friday.
Calgary-based DIRTT creates customized interiors serving the nonresidential construction market with its proprietary ICE software, paired with integrated inhouse manufacturing of prefabricated interior construction solutions sold through a network of more than 100 distribution partners.
Hammill’s update comes after the company released its first quarter financial results for the 2022 fiscal year.
“DRT has endured several management changes and missed expectations over the past two years, although managing a business exposed to office renovation spending during a pandemic is uniquely challenging,” Hammill said. “We continue to see high value in the company’s offering but remain cautious until a team is in place to unlock the value.”
DIRTT’s financial quarter was headlined by revenue of $38.3 million, which was in line with the consensus estimate of $39 million, but slightly off from the $41 million estimate set out by Paradigm Capital. (All figures are in US dollars except where noted otherwise.)
However, Hammill’s bigger focus was on the company’s weaker than expected EBITDA, which came in at a $12 million loss compared to the Paradigm Capital projection of an $11.4 million loss, along with the consensus estimate of an $11.2 million loss. Hammill attributed the slight miss to margin pressure, in particular having gross margins negatively impacted by rising material, packaging and transportation costs.
“Management has implemented two price increases which should help alleviate some pressure; however, it is not certain they will be enough,” Hammill noted.
On top of the weaker EBITDA, the company also incurred reorganization costs of $4 million, with the company’s new management reducing its head count to minimize costs.
The company also reported a $21 million cash burn in the quarter with $8 million in one-time items, leaving DIRTT with $38.9 million in cash available, which Hammill estimates to provide a runway of three quarters.
DIRTT has undergone a significant executive overhaul, as activist shareholder 22NW Fund executed on its plan to replace seven members of DIRTT’s board of directors, as well as terminating Interim CEO Todd Lillibridge, who had only been appointed in January following previous CEO Kevin O’Meara’s departure.
The company has another interim structure in place, with CFO Geoff Krause and COO Jeffrey Calkins serving as Co-interim CEOs until a permanent replacement is found.
“As an organization, we are relieved to have the proxy fight behind us and enthusiastically welcome our new board of directors,” Krause said in the company’s May 5 press release. “It is with the unwavering belief in the opportunity for DIRTT, in our employees who have repeatedly demonstrated extraordinary resilience and loyalty for our company and in our partners with whom we are grateful to work with every day, that Jeff Calkins and I assumed the role of co-CEO during this interim period.”
The updated financial results and company news have prompted Hammill to modify his financial estimates for DIRTT, lowering his 2022 revenue projection from $180.1 million to $177.5 million for a potential year-over-year increase of 20.3 per cent while drawing more in line with the consensus projection of $176.2 million.
Looking ahead to 2023, Hammill reduced his revenue target from $219.6 million to $216.7 million for a potential year-over-year increase of 22.1 per cent, again coming more in line with the consensus expectation of $212.4 million.
From a valuation perspective, Hammill forecasts the company’s EBITDA to drop from 0.7x in (year) to 0.6x in (year), then to a projected 0.4x in (year), which presents as a discount to the 1.5x specialty building average for the same year, but is more in line with the 0.6x projection for the Office Furniture sector.
Meanwhile, Hammill projects continued EBITDA losses for DIRTT moving forward, forecasting a loss of $37.9 million in 2022 (previously a $20.5 million loss projection) and a loss of $21.6 million in 2023 (previously a $2.9 million loss projection).
Despite the recent uncertainty surrounding the company, Hammill believes DIRTT’s product is a suitable modern office design solution while also solving a major labour supply issue.
“In the near term, we struggle with forecasting given the continued uncertainty of when we will see the true trough quarter,” Hammill said. “Given the interim status of the CEO’s office and no specifically articulated recovery plan, we are waiting firmly on the sidelines.”
DIRTT has seen its stock price get dragged to a 56.6 per cent loss since the beginning of 2022, falling off after an early 2022 high of US$2.25/share on January 7 and closing Friday at a 2022 low of US$0.92/share.