DNB Markets - IAR Systems: Soft start to 2023

IAR Systems’ Q1 results were soft and missed our adj. EBIT forecast by 38% as it ramped up its sales organisation. We reiterate our SEK140–250 fair value as we appreciate the combination of being net cash positive, defensive elements from ~40% recurring revenues, and optionality from its embedded security offering. We note that insiders have accumulated shares at the current share-price levels in 2022–2023.

Weak Q1. IAR reported Q1 organic sales growth of 5% YOY (from 7% YOY in Q4 and 11% in Q3), which led to net sales 4% below our forecast in light of longer sales cycles. The positive surprise was 33% organic growth YOY in license-based sales and deferred income up 29% YOY. Adj. EBIT was 38% below our forecast (12.2% margin, down 4.6%-points YOY), suggesting a 20% decline YOY due to SEK4.2m less capitalised development costs, while hiring ~10 additional sales representatives QOQ to accelerate growth in the coming quarters. Cash flow from operations declined 9% YOY to set up an LTM cash conversion of 91% and net cash of SEK93m at end-Q1.

2023–2024e net sales and adj. EBITDA lowered by 3% and 14–7%, respectively, of which ~50% stems from negative FX (IAR has a high sensitivity to SEK movement, given its 97%+ gross margin and fixed cost base) and the rest reflecting lower organic growth assumptions and new sales hires. IAR's cost review should yield ~SEK25m in net annual savings in 2023 YOY, but we expect opex to increase by SEK22m YOY in 2023, baking in conservatism, and now forecast 7% YOY organic sales growth for 2023 (while it will implement ~5% price hikes in H2, we believe).

Fair value of SEK140–250 reiterated, corresponding to a 2023e EV/EBIT of 15–28x. IAR Systems is trading at a 15x 2023e EV/EBIT (or 13x EV/EBIT and 8.0% FCF yield, excluding Secure Thingz). We believe management's ambitious ramp-up of security sales for 2023e could be 2–3x higher than our forecasts, but should it not materialise, we believe IAR could make a strategic review to lessen the ~SEK60m/year drag on cash flows, with either outcome potentially acting as a catalyst for the business.

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Best regards

Joachim Gunell | DNB Markets | Equity Research Sweden

Email: joachim.gunell@dnb.se