Further progress in H1 23

Tern has delivered a solid set of first-half results against a challenging backdrop, with ARR up 43% year on year and other KPIs continuing to show an improvement. As flagged, valuations across the global technology landscape have been challenged due to risk appetite and long-term value expectations. Therefore, despite a significant improvement in metrics across Tern’s portfolio, the valuation decreased to £21.8m (FY22: £23.9m). The portfolio is gaining commercial traction, highlighted by Wyld Networks’ post-period agreement with SpaceX to explore areas of collaboration. During H1, Tern focused on supporting the growth and development of its existing portfolio, funded by cash realisations of its existing holding in Wyld Networks and a £0.5m loan. In a difficult environment for early-stage technology companies, we believe that Tern’s ‘hands on’ funding-to-exit model can produce positive outcomes in the mid to long term.

Further progress in H1 23

ZOO has announced FY23 results in line with the guidance given in the recent trading update. Increased market share and the scaling up of its international operations have delivered revenue growth of 28% to $90.3m (FY22: $70.4m), with good margin progress and profitability. ZOO’s key growth drivers remain intact, content budgets remain large and the focus by the key streaming players on monetisation models represents a material opportunity, underpinned by the roll-out of ZOO’s strategic geographic hubs. However, short-term trading has been affected by two temporary market issues: cost cutting among major streaming providers holding back order flows, and the ongoing industry-wide strikes impacting localisation and media services work on new titles. We maintain headline estimates for FY24, which we adjusted at the recent trading update to reflect the near-term headwinds. We also maintain our FY25 estimates, with revenue of $115m and adjusted EBITDA at $19m.

FY23 – strong revenue growth and margins

Tern’s board and management have been significantly restructured following the AGM in late June, which did not approve the reappointment of CEO Al Sisto as a director. Al Sisto remains CEO but the board will be made up of non-executive directors, comprising experienced hires from within the business who will act ‘independently and in the interests of all shareholders’. Current executive management will continue its hands-on approach, proactively supporting growth via the team’s experience and sector expertise. The restructuring, together with other cost-saving measures, is expected to reduce central costs by c.40% in FY24 (vs FY22).

Board and management restructure

SDI has announced FY23 results in line with the guidance given in its May trading update. Strong organic growth and outperforming acquisitions delivered revenue growth of 36% to £67.6m (FY22: £49.7m), with adjusted PBT at £11.8m (FY22: £11.8m). Despite increased global economic uncertainty, SDI’s niche businesses, operating in diverse end markets, delivered organic growth of 6.4% (constant currency). This excludes the ‘one-off’ Atik Cameras PCR contract, which was c.£8.5m in FY23 and c.£10.9m in FY22. We maintain our estimates for FY24, which we adjusted at the time of the May trading update to reflect the short-term impact of the cessation of Atik’s PCR-related revenue, coupled with the increased contribution from lower-margin recent acquisitions. SDI continues to deliver on its ‘buy and build’ strategy, with consistent organic growth per annum of 5%-10%, a solid cash performance and strong balance sheet. We believe that its M&A pipeline offers upside potential to FY24 forecasts.

Strong FY23

RBG has, in recent days, given a trading update that reflects the challenging conditions, written down the values of all conditional and damages-based fee agreements within the legal services business, and unveiled the return to the board of Ian Rosenblatt, the group’s founder and most significant fee earner. We see the combination of these developments, alongside the recent disposal of LionFish, as potentially marking a turning point for the business, with a clear return to the original (and successful) heartland of the group. The downgrades to estimates are disappointing, but hopefully risk to forecasts is now much reduced, and we look forward to seeing further results of these strategic developments over time.

Back to its roots…

Tern’s portfolio company Wyld Networks has signed a potentially transformational deal with SpaceX to explore areas of collaboration, initially looking at offering remote connectivity in North, Central and South America. This builds on Wyld’s success following the commercial launch of its product in December 2022; as at mid-May 2023, it had built a significant order backlog of SEK 92m ($8.7m). We believe that this high-profile deal reinforces Tern’s strategy to take advantage of Wyld’s success as a standalone company and to make use of phased access to capital, as highlighted by the recent £3m funding facility (see our note). In our view, this deal should be seen as a huge positive for Wyld, while underpinning Tern’s hybrid VC model.

Wyld collaboration with SpaceX

Thruvision has announced FY23 results in line with the guidance given in its April trading update. The group’s unique offering and growing traction in its two core markets has driven revenue growth of 49%, with EBITDA almost at breakeven (£0.2m loss). The Customs division has contributed very strongly, and should continue to grow, underpinned by the US Customs and Border Protection (CBP) framework. Despite the difficult trading backdrop, Retail Distribution (formerly Profit Protection) delivered a robust performance, adding new clients and generating 50% of revenue from existing client upgrades and expansion. Employee theft remains a big problem for the retail industry, and we believe that Thruvision is well placed to take advantage when economic conditions improve. We introduce our FY2024 which show continuing turnover growth and a positive EBITDA of £0.1m.

Delivering on profitable growth

ZOO recently gave a Q1 update, highlighting that trading has been affected by two temporary market issues. First, the ongoing cost cutting among major streaming providers, which is holding back order flows. Second, the industry-wide strikes, which are impacting localisation and media services work on new titles. We reduce FY24 estimates to reflect these issues, as detailed below. However, we expect project workflow to resume with ZOO well placed, particularly given recent acquisitions. We therefore introduce FY25 estimates with revenue at $115m and adjusted EBITDA at $19m. The group also detailed an accounting policy change as part of its audit procedure. This change relates to IFRS 15 interpretation, specifically third-party costs matching invoices received (rather than revenue recognition). The impact is to increase adjusted EBITDA in FY23E by $2m, but with a downward restatement of FY22 by $1.2m.

Near-term headwinds, but new FY25 estimates

Last week, RBG announced the successful disposal of LionFish to Blackmead Infrastructure for a total consideration up to £3.06m. In our view, this materially simplifies the business and reduces its exposure to third-party litigation funding, which has detracted from the otherwise more stable underlying revenue and earnings profile of the group. The LionFish disposal strengthens the balance sheet, enabling the new board to focus on driving the high-margin, cash-generative legal and professional services group. We maintain our estimates for FY23 and note that RBG continues to trade at a discount to its peer group, despite sector-leading margins and a forecast 18% dividend yield. With the LionFish disposal successfully completed, alongside positive sector newsflow, we expect the shares to re-rate.

LionFish sale completed

Tern has successfully negotiated a new funding facility with an investor to provide up to £3m, available for up to 36 months, with an initial £0.5m drawn down. The credit facility is intended to protect Tern’s commercial position by supporting further growth and investment in its current portfolio companies. The facility will also strengthen Tern’s negotiating position and moves the company closer to a self-financing model. We see this funding as a sensible move as Tern continues to mature its position and offering. Tern also hosted a Q&A session with Board members Al Sisto and Ian Ritchie, and we reiterate some of the key messages discussed.

£3m new facility agreed

Tern has delivered further progress in FY22 against a challenging backdrop. KPIs demonstrate that repeat revenues are growing and headcount is increasing, supporting our view that the portfolio is gaining commercial traction and turning configuration work into recurring revenue. However, valuations across the global technology landscape have been challenged for several quarters due to interest rates, risk appetite and long-term value expectations. Therefore, despite the significant improvement in metrics across its portfolio companies, Tern has reported an £8.4m reduction in fair value, reversing the uplifts in value achieved in H1 22. While the reversal of the recent uplift in NAV is disappointing, we see significant value creation from Tern’s hybrid VC model and organic growth potential. Tern’s funding-to-exit model requires patience: we see recurring revenue growth attracting additional strategic interest and look forward to positive newsflow.

FY22 progress despite global tech sell-off

CEPS continues to deliver on its key strategic initiatives and growth drivers despite a challenging economic backdrop. Total revenue in FY22 (to 31 December 2022) increased 30% to £26.5m (FY21: £20.3m), driven by both an increase in the underlying business and recent acquisitions. Profitability has also improved, with operating profit up 31% to £2.1m (FY21: £1.6m). 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 continued economic uncertainty, management has flagged that although performance in the first quarter of FY23 has been ahead of expectations, significant uncertainties remain for the rest of the year, and the companies are being managed accordingly.