Netcomm Aims For High Growth M2M

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-Contracts with global players
-Critical mass achieved
-Strong earnings growth forecast
 

By Eva Brocklehurst

Netcomm Wireless ((NTC)) is positioning to be a major player in a high growth industry. The company has secured a number of potentially large contracts that should ramp up from FY15 and provide increasing scale benefits.

Moelis initiates coverage on Netcomm with a Buy rating and 95c target, with a view that the stock offers an attractive risk/reward proposition. The company is increasingly involved in the exchange of information between machines – or M2M in tech parlance – which uses no human interface. M2M uses a cellular network, which has risen to prominence as the cost of implementation has decreased, allowing businesses to increase productivity. End-use machines run the gamut from EFTPOS, ATMs, digital signage and medical devices to elevators. The company has a major deal with Vodafone Global Enterprises, supplying M2M IP modems for international deployment. In April, Netcomm also signed a strategic partnership with Japan's Kanematsu Communications for the distribution of M2M devices.

So, which businesses deploy M2M? They include utilities, healthcare, transportation, and building automation – such as security systems. The channels for supply include partnering with international telecommunication carriers, industry distributors or specific projects. Netcomm differentiates its software by being open-platform. This means it is more versatile compared to rival products and this was a primary reason for the success with Vodafone in a competitive tender process. A typical 9-12 months development time is required to customise products. Contract manufacturers in Asia are used to ensure scalable production and limited capex requirements.

The company is in discussions with a number of new M2M and smart metering prospects in Australia, the US and the Middle East. Importantly, in Moelis' view, Netcomm has reached a level of critical mass where the fixed cost base is capable of supporting revenue approximately three times the FY14 base, delivering meaningful operational leverage.

The company has guided to revenue and earnings of $58-63m and $4.6-5.1m respectively for FY14. M2M is expected to represent 55% of revenue in FY14 compared with 20% in FY13. The balance is from the legacy business that supplies a range of wireless telecommunications products. Moelis assumes no dividend is paid over the forecast period, given the likely retention of capital for growth. The broker estimates earnings growth of 366% in FY15 and 143% in FY16, and share price appreciation as this is delivered.

Moelis is attracted to the 30 years experience the company has in the supply of communications technology and the level of revenue stability provided by the legacy business. There is strong potential for the broker's assumptions to be conservative beyond this year, supported by ongoing contract success. The company undertakes some hedging, but the broker observes a natural hedge exists as the majority of M2M revenue is in US dollars, and manufacturing costs are also in US dollars.

So what are the risks? Funding is still required. There is the potential for extra working capital to be needed for any large contracts that are secured. The company manages this need via a range of facilities. There is also a risk of loss of existing contracts, but Moelis considers this unlikely as the majority of M2M contracts ramp up after a prolonged period of testing. The key risk in this instance is timing, as the ramp-up is dependent on extensive customer testing of the product.

NetComm Wireless was founded in 1982 and recently has been balancing the existing business with a strategy of transitioning to high growth global M2M. Legacy products include consumer grade ADSL/filters and 3G routers. In addition, the company provides continuity devices to ensure businesses stay online with wireless broadband in the event fixed line connections fail. A reason for the company's success is its ability to differentiate its product offering, engineering it to meet a customer's requirements. M2M revenue growth is driven by contracts including those with Victorian Smart Metering for SP AusNet ((SPN)), the NBN for Ericsson and the Vodafone ((HTA)) orders.
 

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