Second high-profile client for ZOOstudio

ZOO has announced a significant new contract with a major Hollywood studio to support the continued global roll-out of the customer’s direct-to-consumer streaming service. This further demonstrates both ZOO’s quality as a services vendor and the leading position of ZOOstudio within the market. In our view, ZOOstudio is a strategically important offering that allows ZOO to become ‘part of the furniture’ once adopted. Client dependence on the technology then translates into competitive advantage and differentiation for ZOO. We make no changes to numbers at this stage but will look to review estimates at the FY23 trading update, due in early April. However, we view this important contract win as a clearly significant milestone towards ZOO’s $400m longer-term revenue target.

Second high-profile client for ZOOstudio

RBG has confirmed that results for the year ended 31 December 2022 are expected to be in line with guidance. This follows a December update flagging a £4.0m non-cash write-off for LionFish. Although there could be considerable upside within the LionFish portfolio, it has the potential to cause swings in the overall group financial performance. This uncertainty has weighed on the shares, in our view, distracting from the success of the Rosenblatt and Memery Crystal (MC) integration. We welcome the announcement that management is looking to concentrate on the high-margin, stable, cash-generative professional services businesses, Rosenblatt Legal Services (RBGLS) and Convex Capital, while looking to reduce exposure to LionFish, with discussions underway. We also note today’s announcement that Nicola Foulston, CEO, has left the group, and await further information around a replacement in due course.

Refocus on professional services

Tern has announced an update on its portfolio activity. Individual companies are gaining commercial traction, with configuration work turning to repeat licencing and significant year-on-year growth in recurring revenue contracts. Third-party investments and uplifts in value are critical proof points that Tern’s model is delivering. The first Series B round was successfully completed in August 2022 for FundamentalVR. Tern also strengthened its own balance sheet with two fundraises in the latter part of 2022, underpinning its focus on shareholder value and protecting its position as portfolio companies increase market penetration and garner strategic interest. The IoT space is buoyant, demonstrated this week by Cognizant Technology Solutions acquiring IoT software engineering business Mobica. We see significant value creation from Tern’s hybrid VC model and organic growth potential, with management looking at well-timed exits that maximise value ‘when the market conditions are right’.

Portfolio update highlights inflexion point

Thruvision has announced strong H1 results to 30 September, with the full year expected to be in line with market expectations. Thruvision’s unique offering and growing traction within its two core markets have driven revenue growth of 41% to £2.8m. The Customs division has contributed very strongly, and we expect the acceleration of growth to continue given the recently announced US Customs and Border Protection (CBP) framework agreement. Two confirmed CBP orders worth £8.7m ($9.7m) underpin FY23E, with most of the backlog, if not all, expected to be delivered in H2. Profit Protection revenue was flat year on year, having achieved c. 70% growth in FY22. Management has been quick to acknowledge the slower growth in Profit Protection caused by economic uncertainty, however employee theft continues to be a big (and growing) issue for retailers. Thruvision remains firmly on track to deliver an EBITDA-breakeven result in FY23, for the first time in the group’s history, with cash burn much reduced.

Strong H1 shows traction in core markets

RBG issued a trading update on 5 December highlighting that LionFish, its litigation finance arm, has lost two cases causing a £4.0m non-cash write-off. Despite this disappointing news, the ‘core’ business has performed ahead of expectations. We believe that management now has an opportunity to complete a plan to divest LionFish, either by a run-off of its existing commitments or a sale of its business. We would view either such plan as a positive for the group, allowing a focus on the high-margin, stable, cash-generative and diversified core professional services businesses. LionFish was, in our view, seen as a departure from the core business, which also raised concerns regarding IHT relief. The news of LionFish’s losses has prompted share price weakness, prompting director share purchases. Even on our reduced earnings estimates, a FY23 P/E of just 8.7x versus its peer group on c.13x offers a significant discount.

LionFish losses have a silver lining

Tern has successfully raised £1.5m (gross) through an issue of 15m subscription shares at 10p per share, a 15% discount to the closing price on 7 December. The net proceeds are intended to protect Tern’s commercial position by supporting further growth and investment in its current portfolio companies. Tern will also repay its £400k short term loan facility which will release call options on 320,455 Wyld shares. We see this fundraise as a sensible move, as the group continues to mature its position and offering. Recent newsflow from both Device Authority (DA) and Wyld further support our view that Tern’s portfolio is at an inflexion point, gaining significant commercial traction. This includes DA announcing two significant contracts, following on from the recent release of KeyScaler 7.0 and Wyld Networks officially launching its satellite IoT network service on 8th December 2022, providing 100% global connectivity for the IoT.

Fundraise and commercial traction

SDI Group has announced strong H1 results to 31 October, with the full year expected to be in line with market expectations. Total revenue increased by 28.3% to £31.7m and adjusted operating profit by 19% to £6.9m. Despite increased global economic uncertainty, SDI’s niche businesses, operating in diverse end markets, have driven overall organic revenue growth of 3.8%. Safelab Systems and Scientific Vacuum Systems (SVS) acquired over FY 2022 and LTE Scientific Limited (LTE) in the first half of FY23, contributed to the strong sales growth, alongside the well-flagged, one-off Covid-19 related contracts within Atik Cameras. Management notes that post-Covid fluctuations in demand haven’t fully settled, but the general level of sales enquiries remains strong. Our FY23 and FY24 estimates are broadly unchanged, with the exception of an increased interest charge given the current interest rate environment.

Another strong set of results

ZOO has announced an exceptionally strong H1 period (to end-September) with revenue almost doubling year on year and strong growth in both profitability and cash generation. The result is in line with September’s trading update, which prompted significant upgrades to estimates for this year and next. The business appears well positioned to benefit from ongoing growth in media content production, with the key streaming providers racing to deliver international (and therefore multi-language) content and ad-supported tiers. This represents a material opportunity for ZOO, underpinned by the well-timed roll-out of ZOO’s strategic geographic hubs and investment in capacity. The FY23E outlook remains in line with market expectations, and we look forward to further delivery in H2 and beyond.

Growth, cash and opportunity

SDI Group has announced the acquisition of Fraser Anti-Static Techniques Limited (Fraser), a UK-based global leader in the manufacture of anti-static equipment. The estimated total consideration is £13m, net of approximately £3.9m excess cash acquired. The acquisition will be funded from SDI’s existing cash resources and revolving credit facility; as at 30 September the group had c.£3.3m of cash, £7.0m bank debt and £13.0m undrawn bank facility. Fraser represents a departure from SDI’s usual sub-£10m targets. The business is already highly profitable, with sales offices in China and Germany. A large proportion of revenue is to overseas customers, and we see good scope to increase global market share across the SDI Group. The acquisition is expected to be immediately earnings enhancing. We therefore increase our estimates for this year and next, with a 4.2% uplift to fully adjusted EBITDA for FY23E and 2.6% for FY24E (given our assumption of lower Atik revenues).

Acquisition to increase global presence

Thruvision has announced a positive H1 23 trading update, to 30 September 2022, as the group continues to benefit from its diversified revenue base. The Customs division has contributed very strongly, and we expect the acceleration of growth to continue given the recently announced US Customs and Border Protection (CBP) framework agreement. The quantum of CBP spend is large, with the two recent orders totalling $9.7m, and we upgrade revenue by 26% for FY23E. Economic headwinds have created a challenging environment for retailers, with H1 23 Profit Protection revenue flat year on year having achieved 70% growth in FY22. Any uptick in demand in Profit Protection could allow further upgrades later in the financial year, and we note that there has been a good level of new business in this area, plus upselling opportunities.  We look forward to further developments as the technology becomes rapidly more accepted and mainstream.

Strong and reassuring trading update

CEPS has delivered solid H1 22 results, for the six months ended 30 June 2022, against a weaker comparative period that was impacted by lockdown restrictions. Total revenue increased by 45% to £13.0m (H1 21: £9.0m) and operating profit by 15% to £930k (H1 21: £809m). The subsidiaries have made good progress following the restructuring measures over the past three years and the ‘buy and build’ strategy is proving successful. However, given the worsening economic situation, management has flagged that ‘caution is our watch word’ and the companies are being managed accordingly. CEPS has not been immune to issues with product availability, labour shortages and sharply rising input costs. In particular, management is looking to automate processes where possible, over the longer term, to reduce costs.

Solid H1 22 but cautious outlook

ZOO recently held an in-person Capital Markets Day (CMD) for retail and professional investors. No new financial detail was given, but this note aims to summarise the additional market intelligence and operational understanding that we gained from the event. Overall it was a very upbeat and reassuring presentation, reaffirming that ZOO enjoys a strong position in an exciting and fast-evolving market.