Sparkling growth, improving margins

Keywords Studios 30 January 2020 Update
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Keywords Studios

Sparkling growth, improving margins

FY19 trading update

Software & comp services

30 January 2020

Price

1,370p

Market cap

£894m

€1.18/£

Expected net debt (€m) at 31 December 2019

18.0

Shares in issue

65.27m

Free float

89%

Code

KWS

Primary exchange

AIM

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(10.0)

20.9

28.8

Rel (local)

(8.0)

17.0

16.0

52-week high/low

1,838p

900p

Business description

Keywords Studios is the largest and most diverse supplier of outsourced services to the games industry. Through regular acquisitions, the company is building its scale, geographic footprint and delivery capability. Its ambition is to become the ‘go-to’ supplier across the industry.

Next events

London CMD

5 February 2020

Final results

31 March 2020

Analysts

Richard Williamson

+44 (0)20 3077 5700

Dan Ridsdale

+44 (0)20 3077 5729

Keywords Studios is a research client of Edison Investment Research Limited

Although we expected strong growth in H219, FY19 revenue of €326m, reflecting 30% overall growth and 15% organic growth, represents a sparkling performance. EBITDA and PBT were ahead of forecast at €49.5m and €41.0m, respectively. Given the higher revenue base, we are revising our FY20 revenue estimate up by 4%, but prudently holding operating profit and PBT at previous levels as margins normalise through FY20. We retain our view that Keywords remains strongly positioned as the only games service provider at a global scale. The company’s P/E rating (25.0x FY20e) reflects its leading market position, track record and potential, and should fall further as Keywords continues its buy-and-build strategy.

Year end

Revenue
(€m)

PBT*
(€m)

EPS*
(c)

DPS*
(p)

P/E
(x)

Yield
(%)

12/17

151.4

23.1

30.0

1.46

53.9

0.11

12/18

250.8

37.9

40.1

1.61

40.3

0.12

12/19e

326.0

41.0

46.0

1.77

35.2

0.13

12/20e

374.9

52.4

64.8

1.95

25.0

0.14

Notes: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Market leader in a growth industry

As management emphasised at the Montreal capital markets day (CMD), as well as strong industry growth (Newzoo forecasts 8.4% growth 2019–22), Keywords benefits from the growth of outsourcing and increasing market share as a market leader in a fragmented global industry. Growth is further boosted by M&A through Keywords’ successful buy-and-build strategy. With the next console transition in Q420, the medium-term growth outlook remains robust and next week’s London CMD will provide further insight into the opportunities for each of Keywords’ business lines.

Robust performance leading to forecast revisions

Although we expected strong growth, FY19 revenues of €326m (FY18: €250.8m), reflecting 30% overall growth and 15% organic growth, represents a sparkling performance. EBITDA and PBT were accordingly ahead of forecast at €49.5m and €41.0m, respectively (Edison: €48.8m, €40.2m), while management expects FY19 net debt of €18m (H119: €9m). Given the higher revenue base, we are revising our FY20 estimates (revenues +4%) but prudently holding operating profit and PBT at previous levels, reflecting caution on the normalisation of margins in FY20 (operating margins of 14.2% vs 14.9% previously), together with a more conservative stance on cash conversion (see below).

Valuation: Rating undemanding, likely to fall further

Keywords remains well placed with strong industry growth and a healthy acquisition pipeline focused around game development and marketing services. Keywords has delivered an adjusted EPS CAGR of 40% from 2014–19, and we believe looks set to maintain double-digit revenue growth for the foreseeable future. In this context, we believe that a 25.0x FY20e P/E is not overly demanding and fairly reflects Keywords’ leading market position, track record and potential. This rating should fall further as Keywords successfully continues to execute its buy-and-build strategy.

Revised estimates

Our estimate revisions are shown in Exhibit 1.

In summary, we have revised FY20 revenue growth (+4% to €375m) given Keywords’ robust performance in FY19, as well as management’s reassuring comments from the trading update on the medium-term outlook. However, we have taken the opportunity to be slightly more cautious on margin expectations, largely holding our FY20 operating profit (€53.4m) and PBT (€52.4m) forecasts at previous levels. This reflects a more prudent assumption on margin progression through FY20, although management restated its expectations that operating profit margins will normalise (which we take as 15%) incrementally in FY20 as Keywords’ leverages its investment (in facilities, recruitment, training, IT, security and HR) over its growing revenue base.

Management has estimated FY19 year-end net debt to be higher than anticipated at €18m (Edison: €10.2m), leading to a reduction in our expectations for net cash in FY20 to €7.6m. However, with the expectation of further M&A to be financed by the company’s new €100m three-year banking facility (extendable to €140m over five years), the net cash/debt position is likely to continue to change significantly.

Exhibit 1: Estimate changes

€000s

Year end 31 December

2018

2019e

2019e

2020e

2020e

Actual

Old

New

Change

Old

New

Change

Revenue

 

 

250,805

319,720

326,004

2.0%

360,157

374,913

4.1%

Cost of sales

(154,997)

(200,771)

(205,021)

2.1%

(224,903)

(234,889)

4.4%

Gross profit (inc multimedia tax credits)

95,808

118,949

120,982

1.7%

135,253

140,024

3.5%

Gross margin (%)

38.2%

37.2%

37.1%

 

37.6%

37.3%

 

EBITDA

 

 

44,232

48,845

49,500

1.3%

60,965

61,192

0.4%

Operating profit (before amort. and except.) 

38,916

42,216

42,741

1.2%

53,498

53,419

-0.1%

Operating margin

15.5%

13.2%

13.1%

14.9%

14.2%

Profit before tax (norm)

 

 

37,911

40,216

41,001

2.0%

52,498

52,419

-0.2%

Profit after tax (norm)

30,720

32,776

33,416

2.0%

43,048

42,983

-0.2%

EPS - normalised (c)

 

 

40.1

45.0

46.0

2.1%

64.8

64.8

-0.2%

Dividend per share (p)

1.61

1.77

1.77

 

1.95

1.95

 

Closing net debt/(cash)

 

 

423

10,188

18,000

76.7%

(24,745)

(7,647)

-69.1%

Source: Keywords Studios accounts, Edison Investment Research


Exhibit 2: Financial summary

€000s

2016

2017

2018

2019e

2020e

Year end 31 December

IFRS

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

96,525

151,430

250,805

326,004

374,913

Cost of Sales

(59,907)

(96,345)

(154,997)

(205,021)

(234,889)

Gross Profit (inc multimedia tax credits)

36,618

55,085

95,808

120,982

140,024

EBITDA

 

 

16,833

26,645

44,232

49,500

61,192

Operating Profit (before amort. and except.)

 

 

15,030

23,915

38,916

42,741

53,419

Intangible Amortisation

(1,629)

(3,038)

(6,872)

(7,559)

(8,315)

Exceptionals

(1,316)

(3,016)

(5,607)

(2,981)

0

Other

(686)

(1,426)

(4,129)

(6,000)

(6,600)

Operating Profit

11,399

16,435

22,308

26,201

38,504

Net Interest

(287)

(818)

(1,005)

(1,740)

(1,000)

FOREX

(1,737)

(3,623)

791

(1,159)

0

Profit Before Tax (norm)

 

 

14,804

23,097

37,911

41,001

52,419

Profit Before Tax (FRS 3)

 

 

9,375

11,994

22,094

23,302

37,504

Tax

(3,223)

(4,731)

(7,191)

(7,585)

(9,435)

Profit After Tax (norm)

11,581

18,366

30,720

33,416

42,983

Profit After Tax (FRS 3)

6,152

7,263

14,903

15,717

28,068

Average Number of Shares Outstanding (m)

55.9

58.7

64.3

65.3

65.4

EPS (c)

 

 

20.8

31.3

41.8

46.8

65.8

EPS - normalised (c)

 

 

20.2

30.0

40.1

46.0

64.8

EPS - (IFRS) (c)

 

 

11.0

12.4

23.2

24.1

42.9

Dividend per share (p)

1.33

1.46

1.61

1.77

1.95

Gross Margin (%)

37.9%

36.4%

38.2%

37.1%

37.3%

EBITDA Margin (%)

17.4%

17.6%

17.6%

15.2%

16.3%

Operating Margin (before GW and except.) (%)

15.6%

15.8%

15.5%

13.1%

14.2%

BALANCE SHEET

Fixed Assets

 

 

61,873

142,927

198,215

223,669

222,865

Intangible Assets

55,495

131,610

180,086

197,727

189,696

Tangible Assets

5,498

10,111

15,002

22,975

30,202

Investments

880

1,206

3,127

2,967

2,967

Current Assets

 

 

38,677

80,182

100,349

107,916

145,357

Stocks

0

0

0

0

0

Debtors

13,879

27,473

37,019

48,125

55,343

Cash

17,020

30,374

39,871

29,295

54,942

Other

7,778

22,335

23,459

30,497

35,071

Current Liabilities

 

 

(27,830)

(51,677)

(95,031)

(83,595)

(84,279)

Creditors

(19,805)

(32,734)

(54,960)

(36,523)

(37,207)

Short term borrowings

(8,025)

(18,943)

(40,071)

(47,072)

(47,072)

Long Term Liabilities

 

 

(6,016)

(10,420)

(11,158)

(11,703)

(10,718)

Long term borrowings

(345)

(337)

(230)

(230)

(230)

Other long term liabilities

(5,671)

(10,083)

(10,928)

(11,473)

(10,488)

Net Assets

 

 

66,704

161,012

192,375

236,288

273,225

CASH FLOW

Operating Cash Flow

 

 

17,108

21,389

38,481

41,278

58,069

Net Interest

(58)

(253)

(502)

(7,542)

(6,394)

Tax

(2,129)

(4,731)

(6,304)

(7,585)

(9,435)

Capex

(2,306)

(3,803)

(9,440)

(14,572)

(15,000)

Acquisitions/disposals

(21,104)

(90,090)

(30,296)

(28,000)

(316)

Financing

643

82,936

174

0

0

Dividends

(825)

(867)

(1,080)

(1,155)

(1,276)

Net Cash Flow

(8,671)

4,581

(9,919)

(17,577)

25,647

Opening net debt/(cash)

 

 

(17,284)

(8,650)

(11,094)

423

18,000

Forex gain on cash

1

(891)

(3)

0

0

Other

36

(1,246)

(1,596)

0

0

Closing net debt/(cash)

 

 

(8,650)

(11,094)

423

18,000

(7,647)

Source: Keywords Studios data, Edison Investment Research

General disclaimer and copyright

This report has been commissioned by Keywords Studios and prepared and issued by Edison, in consideration of a fee payable by Keywords Studios. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2019 Edison Investment Research Limited (Edison). All rights reserved FTSE International Limited (“FTSE”) © FTSE 2019. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

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Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

General disclaimer and copyright

This report has been commissioned by Keywords Studios and prepared and issued by Edison, in consideration of a fee payable by Keywords Studios. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2019 Edison Investment Research Limited (Edison). All rights reserved FTSE International Limited (“FTSE”) © FTSE 2019. “FTSE®” is a trade mark of the London Stock Exchange Group companies and is used by FTSE International Limited under license. All rights in the FTSE indices and/or FTSE ratings vest in FTSE and/or its licensors. Neither FTSE nor its licensors accept any liability for any errors or omissions in the FTSE indices and/or FTSE ratings or underlying data. No further distribution of FTSE Data is permitted without FTSE’s express written consent.

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1,185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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