Take the deal on Magnet Forensics, says Eight Capital

Canadian cybersecurity name Magnet Forensics (Magnet Forensics Stock Quote, Charts, News, Analysts, Financials TSX:MAGT) shot up last week on news of a takeover by software investment firm Thoma Bravo. Looking over the proposed deal was Eight Capital analyst Christian Sgro, who in a Monday report moved his rating on MAGT from “Buy” to “Tender,” saying the acquisition creates a combined force to reckon with in the digital forensics industry.

Toronto-based Magnet Forensics, which offers digital investigation solutions to over 4,000 enterprises and public safety organizations worldwide, announced on Friday a $1.8-billion definitive agreement to be acquired by Thoma Bravo at an offer price of $44.25 per subordinate voting share. 

Thoma Bravo said it will combine Magnet with cyber company Grayshift, of which Thoma acquired majority control in July 2022. The deal has unanimous board approval from Magnet, and Magnet’s Chair, Jim Balsillie will serve on the combined company’s board. The transaction is expected to close over the second quarter 2023.

“We believe the combination of Magnet and Grayshift will unlock tremendous value for our customers by further integrating and expanding our product suite which will result in more seamless workflows in the recovery and analysis of critical digital evidence to investigations and ultimately contribute to our shared mission of the pursuit of justice,” said Adam Belsher, CEO of Magnet, in a press release.

Looking at the deal, Sgro said at $44.25 per share the transaction implies about a 10x revenue or 51x adjusted EBITDA price tag, unlocking “full upside” for shareholders, he said.

“Thoma Bravo is amongst the most active investors in the cybersecurity sector,” Sgro wrote. “Thoma Bravo entered digital forensics through its investment in Grayshift in 2022, where its GrayKey technology provides lawful access for comprehensive data extraction from mobile devices to law enforcement and government investigative agencies.”

“We noted in our September initiation of coverage that Grayshift is a key competitor in global extraction, with significant customer overlap. Alongside Magnet’s AXIOM platform and its leadership in extraction from other nodes (ex. PC, cloud), we believe the merger with Grayshift to be highly strategic creating a dominant entity in the digital forensics landscape,” he said.

On the prospects of a competing offer, Sgro said the premium valuation of the proposed transaction would make it difficult for a “financial-engineering” motivated software consolidator, absent the same synergistic value, and the analyst doesn’t see another large private equity buyer willing to compete or one as strategically positioned in the digital forensics market as Grayshift and Thoma.

As for Canadian investors now looking for other places to deploy capital, Sgro said the field is scarce, with only a handful of names available. Within Eight Capital’s coverage universe, Sgro pointed to Quisitive Technology Solutions (Quisitive Technology Solutions Stock Quote, Charts, News, Analysts, Financials TSXV:QUIS) and Converge Technology Solutions (Converge Technology Stock Quote, Charts, News, Analysts, Financials TSX:CTS) as having exposure, while outside of cybersecurity, he thinks profitable growth software currently represents the best opportunity to deploy capital.

“Within our coverage, we point to Kinaxis (Kinaxis Stock Quote, Charts, News, Analysts, Financials TSX:KXS) as an ideal candidate with similar software attributes. Kinaxis is a market leader in supply chain management software and a Rule of 40 company with normalized 20 per cent+ SaaS growth and ~20 per cent EBITDA margins. We see upside potential to Kinaxis’ current share price this year, and similarly, we do not discount the possibility of a takeout.

Stock: Quisitive Technology Solutions

Eight Capital rating: Buy

Eight Capital 12-month target price: $1.75

Projected 12-month return: 150 per cent

Stock: Converge Technology Solutions

Eight Capital rating: Buy

Eight Capital 12-month target price: $10.00

Projected 12-month return: 82 per cent

Stock: Kinaxis

Eight Capital rating: Buy

Eight Capital 12-month target price: $230.00
Projected 12-month return: 53 per cent