Baird/RECN/Marcon: Downgrading to Neutral
Baird/RECN/Marcon: Downgrading to Neutral - Pricing Softer than Expected Reducing Estimates
Reducing estimates and rating. We expect RECN shares to pull back with adjusted EBITDA below our estimate/consensus and revenue below consensus. Furthermore, the rate of yoy organic growth eased in recent weeks and competitive pressures drove gross margin below our estimate.
However, while incrementally negative, valuation remains attractive relative to earnings power with 15% EBITDA margin achievable, in our view. Would buy on material weakness.
* Reported mixed quarter, with revenue ahead of our estimates, paced by a strong performance in Asia Pac, but margins well below our estimate reflecting a tougher than expected pricing environment.
* Revenue increased 10% yoy to $137.6 million, above our $135.9 million estimate, below $139.6 million consensus.
* Largest region, North America, experienced deceleration in yoy organic growth to 6.7% in FQ3.
* Europe 9.5%,
* Asia-Pac very strong 61.0%, but smallest region.
* Gross margin contracted and was below our estimate due partially to increased competition.
* Contracted 160 bps yoy to 37.0%, below our 38.3% estimate.
* Bill-pay spread contracted slightly and competitive pressure may be intensifying surprising negative given bill-rates appeared to have hit an inflection point last quarter.
* GM contraction led to adjusted EBITDA materially below our estimate. 10% yoy to $8.2 million/6.0% margin, below our $10.0million/7.3% estimates.
* Recent weekly revenue trends lower than we expected....
* $10.9-11.4 million/week during first four weeks of FQ4, 6% yoy (deceleration from 10% in FQ3).
* Along with reduced gross margin expectations, leads us to:
* Reduce our estimates:
* FQ4'11E/F'12E EPS from $0.20/$0.71 to $0.12/$0.53 (consensus was $0.15/$0.69).
* Long-term earnings power significant, but timeline likely longer than we previously expected.
* We continue to believe RECN has a differentiated, attractive value proposition.
* 15.0% adjusted EBITDA margin target seems achievable with continued macro recovery assuming competitive pressures ease with continued demand improvement.
* Downgrading to Neutral, reducing price target to $20 reflects 25x still depressed C'12E EPS, on a cash-adjusted basis.