Company Overview: ELMO Software Limited (ASX: ELO) is an HR technology company that offers pioneering cloud HR, payroll and rostering/time and attendance technology. The company was established in 2002 and operates on a Software as a Service (“SaaS”) business model based on recurrent subscription revenues. The company has approximately 384 employees as at 30 June 2020, with offices in Australia, New Zealand, and the UK. In the same time span, the company has a customer base of ~1,682 organisations. Post the buyout of Breathe, the company’s total addressable markets increased to ~$11.4 Bn.

ELO Details

ELO Rides on Acquisition Synergies and Low Customer Concentration Risk: ELMO Software Limited (ASX: ELO) is an HR technology company that provides innovative cloud HR, payroll and rostering/time and attendance technology. As at 30 June 2020, the company had key offices in Sydney, Melbourne, Perth, Brisbane, Auckland and Christchurch region with a headcount growing to 384. The company’s cloud-based platform is also engaged in developing and maintaining key growth strategies remotely during the coronavirus led pandemic. This indicates that the company remains well equipped to offer an uninterrupted service to its customers. The transitional shift towards a remote-based working across its customer base underlines ELMO’s successful workforce, responding with typical flexibility and agility in FY20.

On 7 October 2020, the company acquired 100% of shares in Breathe, a high growth UK based HR platform designed for Small Business. The Breathe’s buyout in the UK is an essential milestone in ELO’s development. Breathe’s scalable platforms increases ELMO’s Total Addressable Market (TAM) by A$2.2 billion and provides deeper footprint in the United Kingdom, Australia, and New Zealand. The acquisition also expands ELMO’s UK footprint, with more than 6,700 customers in that market. In FY20, the company laid a long term, sustainable foundation to achieve its growth impetus and continued momentum, despite some of the macroeconomic hindrance in the broader economy.

TAM Highlights (Source: Company Reports)

In February this year, the company bought Vocam, which aided the company to expand its total addressable market, with the inclusion of UK opportunities. In January 2019, the company completed the acquisition of HROnboard, which provided a boost to its customer base in the human capital management (HCM) space and offered good scope to cross-sell its extensive SaaS offering. Another acquisition in January 2019 was of BoxSuite. These acquisitions lay a strong foundation for long-term, sustainable growth for the company.

Coming to 2019 performance, the company entered into a strategic alliance with the University of Technology, Sydney (UTS) to build artificial intelligence (AI) driven Predictive Analytics module. ELO expects a decent growth in ARR and revenue in FY21. Looking at a time span from FY17 – FY20, the company witnessed strong growth in its customer base, which rose from 524 customers at the end of FY17 to 1,682 at the end of FY20. 3-year CAGR stood at 47.5%, demonstrating a large opportunity for a growing customer base. The company’s customer concentration remains very low, with the largest customer demonstrating less than 2% of ARR. Also, the company’s 10 largest customers represented less than 7% of ARR in FY20. In addition, the company will continue to deliver on its growth strategy of investing in its capabilities and fully utilise the potential of the large market opportunity. The company is planning to increase its headcount and invest in its R&D capabilities to generate strong, long-term returns for shareholders.

Statutory Revenues, Customer Growth and ARR (Source: Company Reports)

Further, to achieve its long-term growth strategies, the company strengthened its cash resources during FY20 via two oversubscribed capital raises. In September 2019, the company raised $70 million through an equity placement, and in May 2020, the company raised an additional $72.8 million. Capital raising is likely to help the company to achieve its goal and organic growth initiatives. The company also remains on track to continue its scale of operations, with enhanced focus on research and development. These initiatives are likely to position ELO as a leading cloud, Software-as-a-Service, HR, and payroll provider in Australia and New Zealand.

Sneak Peek at FY20’s Key Results: In FY20, the company’s record annualised recurring revenue soared 19.7% on a year over year basis. Of this, more than 97.6% of the revenue was subscription-based. The period saw record annual cash receipts amounting to $57.5 million and the upward trend continued from FY17, where the company recorded the cash receipts of $18.3 million. In FY20, customer retention came in at 90.2%, depicting the strength of the company’s loyal customer base, which enhances its cross-sell potential. Statutory revenue increased by 25% year over year and came in at $50.1 million. Gross profit margin stood at 85.3%, down 1.3% on FY19, owing to higher investment in client services to support an increased and growing customer base. Statutory EBITDA loss came in at $4.2 million. In addition to the robust financial performance, the company also invested significantly during the year to enhance its technological capabilities, sales & marketing resources, and expansion of product suite to promote long-term, sustainable growth for the business.

Subscription-Based Model (Source: Company Reports)

1QFY21 Key Update: The company reported recorded cash receipts of $61.1 million, over a period of 12-months, which went up 30.4% on a year over year basis. First quarter cash receipts came in at $15.6 million, an increase of 29.8% from the prior corresponding period. As at 30 September 2020, the company’s cash balance stood at $130.4 million with no debt. The enhanced product suite provides the company with a competitive edge, increased potential of sales to new customers and additional cross-sell opportunities from existing customers.

1QFY21 Customer Receipt (Source: Company Reports)

Healthy Balance Sheet and Decent Liquidity: For FY20, the company reported gross margin of 84.1%, which is higher than the industry median of 80.8%. The company improved on its short-term liquidity with a current ratio of 3.1x in FY20, as compared to a current ratio of 1.06x in the previous year. The company has also built a decent balance sheet position with total assets reaching $246.3 million as at 30 June 2020. ELO has cash and cash equivalents of $139.9 million, up from $27.7 million reported at the end of June 2019, reflecting the cash generative nature of ELO’s business. Total debt at the end of the period amounted to ~18.7 million. Net cash from operating activities came in at $6.4 million for the period ended 30 June 2020.

Key Metrics (Source: Refinitiv, Thomson Reuters)

Top 10 Shareholders: The top 10 shareholders have been highlighted in the table, which together form around 58.22% of the total shareholding. Jlab Investments (No. 2) Pty. Ltd. is the entity, holding maximum shares in the company at 15.81%. Immersion Capital Master Fund Ltd. is the second-largest shareholder, with a holding of 14.02%.

Top Ten Shareholders (Source: Refinitiv, Thomson Reuters)

Risk Analysis: The company is exposed to the risk of changes in foreign exchange rates. COVID-19 led disruptions and stiff competition in the market remains a potential headwind. Also, credit risk, liquidity risk and market risk, arising from financial assets and liabilities, adds to the woes. 

Outlook: The company remained on track with strong record levels of cash receipts and enhanced market opportunity for its convergent solution. Going forward, it seeks to execute on its strategy to increase customer share in the lower mid-market organisations, that have limited HR solution options. The company seems well-capitalised to continue investing in both organic growth and strategic acquisitions. The company has upped its FY21 outlook, post the acquisition of Breathe. ELO now expects its FY21 ARR to be in the range of $72.5 million and $78.5 million (previous guidance was $65 million and $70 million). Further, the company now expects FY21 revenue to be between $61 million and $66 million (previously $57 million and $61 million).

FY21 Outlook (Source: Company Reports)

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: EV/Sales Multiple Based Relative Valuation (Illustrative)

EV/Sales Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

Stock Recommendation: The stock of the company has gone up 8.49% in the past one month and is currently trading slightly below the average of its 52-week low and high level of $3.66 and 8.39, respectively. On the technical analysis front, the stock has a support level of ~$5.499 and an immediate resistance level of ~$5.844. In FY21, the company intends to maintain its focus on delivering organic growth supplemented with strategic acquisitions. We have valued the stock using an EV/Sales multiple based illustrative relative valuation method. For the said purpose, we have considered peers like Integrated Research Ltd (ASX: IRI), LiveTiles Ltd (ASX: LVT), Nitro Software Ltd (ASX: NTO), to name a few. As a result, we have arrived at a target price of an upside of lower double-digit (in percentage terms). Considering the above-mentioned factors, we give a “Buy” recommendation on the stock at the current market price of $5.640, down 3.093% on 23 October 2020.

ELO Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

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