Ringing The Bell... sort of

I first started to invest the time researching Isentia Group more than a year ago, just before the release of the company's 2016 interim result.

At the time the stock was trading at an EV/EBITDA multiple of something like 15 or 16 times ad a P/E multiple in the mid-20s, based on a forwards earnings trajectory that was being forecast to ratchet upwards at a dramatic rate of some 25%pa to 30%pa.

When the interim result was published, what struck me was that the core business was showing very few signs of growing at all, let alone at the rapid pace that was implied by consensus forecasts.

Refer: https://hotcopper.com.au/threads/an...2763594/page-46?post_id=18173552#.WPWuN4h96Uk )


Well, fast forward a little under 18 months, and a few things have changed.

For starters, the share price has lost around 70% of its value.
And while consensus forecasts still have the company's profits growing rapidly (by ~15%pa) in Fy2018 and Fy2019, that growth is now lower than the "hallelujah" rate of 255 to 40% previously forecast, and it now takes place off a substantially lower FY2017 base.

The combination of these two factors has the stock now trading to a dramatically de-rated FY2018 EV/EBITDA multiple of just 5.6x and a P/E multiple of 11.7x.

For a once-market darling to go from >15x EV/EBITDA and 25x P/E to 5.6x EV/EBITDA and 11.7x P/E is some de-rating!

But of course, that assumes that the consensus forecasts are correct.

Which I, for one, don't believe to be the case; rather, I believe that - in a typical case of broking analysts having their prima donna heads stuck up their own behinds - consensus forecasts have failed to recognise that there are some structural forces at work that are currently limiting ISD from adjusting its price lists to recover rising input costs.

So I think ISD will have done well to get to FY2019 having grown its earnings by much at all (even assuming non-recurrence of this year's $3.0m EBITDA loss related to King Content).

So, instead of the 15%pa NPAT growth being assumed by broking analysts, if I used a more sober 5%pa rate, then I get FY2018 valuation multiples as follows:

P/E = 13.9x
EV/EBITDA = 6.4x
Free Cash Flow Yield = 8.5% (on EV)
Free Cash Flow Yield = 9.7% (on Market Cap)


For a highly cash-generative business such as ISD, those sorts of multiples look decidedly attractive to me, especially the ones that relate to this thing that matters most to me, namely Free Cash Flow.

And - importantly from the standpoint of capital preservation - they appear to me to already factor in the downgrade in earnings forecasts which I strongly suspect will occur at some stage over the next 6 or 9 months.


And then, if we take it to the next level of conservatism, and assume that the company is completely ex-growth; i.e., that earnings remain unchanged in FY2018 -  even with the tailwind of the reduction in the King Content loss (which, alone, would translate into around 12% as an NPAT growth kicker).

On this downside scenario, the stock's FY2018 valuation metrics looks as follows:

P/E = 14.9x
EV/EBITDA = 6.7x
Free Cash Flow Yield = 8.1% (on EV)
Free Cash Flow Yield = 9.2% (on Market Cap)

Which are still not unattractive, by any means.


Based on the above analysis, I today commenced buying ISD shares.
(Importantly, I did som despite an expectation that earnings downgrades are likely.)

The reason I have done so is because I think that the market - in the way that it currently values the stock - is already factoring the downgrades, so when earnings forecasts are indeed moderated, in terms of the share price response, I fully expect it will be a case of Sell-the-Rumour;- Buy-the-Fact.


While this is not a simply wonderful business, it is not that bad a business that warrants it being valued at <14x P/E, <6.5x EV/EBITDA and a Free Cash Flow yield of almost 10%.