Solwers Q3'24: Balance sheet utilization key to value creation

Translation: Original published in Finnish on 11/30/2024 at 4:32 pm EET.

Solwers' Q3 figures came in below our forecast, which we believe reflects sluggish market conditions and, to some extent, higher-than-expected seasonality. We have revised our forecasts for the current and the coming years and lowered our target price to EUR 4.2 (previously EUR 5.0). A more efficient and successful allocation of capital is required to increase the value of the stock, and we take a more cautious view on this. guidance but this and the estimate revisions, we lower our recommendation to Accumulate (was Buy).

Growth driven by acquisitions, profitability significantly down year-on-year

Solwers' Q3'24 revenue increased by around 21% year-on-year to 16.6 MEUR, which was below our forecast. The comparison period figures were not available, so our quarterly forecast was based on our estimate of seasonality. Therefore, we believe a better measure of Q3 performance is our H2'24 growth forecast that was set at 23%. Our forecast was based on a stable organic revenue development, so growth is driven by acquisitions. In general, market conditions have been sluggish in line with the economic trend, and we expect organic growth to have been tight and possibly even slightly negative. EBITA amounted to 1.2 MEUR, corresponding to a subdued profitability of 7.3%, significantly lower than in the comparison period. Profitability was impacted by efficiency losses due to sluggish demand, which we estimate is reflected in lower billable utilization rates for some Group companies. However, due to the reduced Q3 reporting, the report does not provide the opportunity for a more detailed assessment of cost levels.

Our earnings forecasts came under downward pressure from two sources

Solwers has not provided numerical guidance but reiterated its previous outlook. According to the company, the business environment is expected to improve towards the end of 2024 thanks to a general market recovery. We continue to believe that the decline in interest rates will strengthen activity in Solwers' target markets. Overall, the recovery appears to be sluggish, with no signs of a significant increase in investment activity on the horizon. We have slightly lowered our organic growth expectations for next year to reflect the operating environment, and we have also slightly lowered our profitability expectations. Reflecting this, our EBITA forecasts for 2024-2026 were lowered by 5-8%. We believe it is premature to draw longer-term conclusions about the company's profitability potential based on a seasonally weaker quarter. However, it is important that the company manages to strengthen its profitability as demand improves, while at the same time working on longer-term strategic growth projects (e.g. expansion into Poland).

Upside potential in valuation requires improvement in capital use efficiency

Our forecast P/E and EV/EBIT multiples for 2024 and 2025 are 19-14x and 15-13x, respectively. The 2025 valuation multiples fully reflect the acquisitions that have been made and are, in our view, fairly neutral. Similarly, the stock is priced at just under 0.8x invested capital, which is moderate. Indeed, the valuation picture is mixed, as an efficient and successful allocation of capital to acquisitions would result in a moderate valuation. In our view, the company should be able to improve the efficiency of capital allocation, which has been a drag on ROIC in recent years. We believe that the success of these efforts will determine the stock's upside potential.