Keywords Studios — Structural strength

Keywords Studios (LN: KWS)

Last close As at 22/04/2024

2,920.00

50.00 (1.74%)

Market capitalisation

2,207m

More on this equity

Research: TMT

Keywords Studios — Structural strength

Keywords Studios looks structurally well placed to continue performing well in an industry where change and innovation are the norm. The company again showed the resilience of its model in FY18, delivering 10.1% l-f-l revenue growth and 53% adjusted EPS growth in the face of considerable industry turbulence. Looking ahead, we see sustained growth from the launch of streaming services by industry majors and the continued shift towards outsourcing. Keywords’ strategy, which has delivered a five-year EPS CAGR of 53%, appears sustainable. As such, we believe that the shares remain set for continued appreciation.

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Written by

TMT

Keywords Studios

Structural strength

Results update

Software & comp services

16 April 2019

Price

1,455p

Market cap

£932m

€1.16/£

Net debt (€m) at 31 December 2018

0.4

Shares in issue

64.0m

Free float

94%

Code

KWS

Primary exchange

AIM

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

30.6

18.9

(17.1)

Rel (local)

27.3

10.4

(18.6)

52-week high/low

2065p

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 event

AGM

25 May 2019

Analysts

Dan Ridsdale

+44 (0)20 3077 5729

Richard Williamson

+44 (0)20 3077 5700

Keywords Studios is a research client of Edison Investment Research Limited

Keywords Studios looks structurally well placed to continue performing well in an industry where change and innovation are the norm. The company again showed the resilience of its model in FY18, delivering 10.1% l-f-l revenue growth and 53% adjusted EPS growth in the face of considerable industry turbulence. Looking ahead, we see sustained growth from the launch of streaming services by industry majors and the continued shift towards outsourcing. Keywords’ strategy, which has delivered a five-year EPS CAGR of 53%, appears sustainable. As such, we believe that the shares remain set for continued appreciation.

Year end

Revenue (€m)

PBT*
(€m)

EPS*
(c)

DPS
(p)

P/E
(x)

Yield
(%)

12/17

151.4

23.1

30.0

1.46

56.2

0.10

12/18

250.8

37.9

45.8

1.61

36.8

0.11

12/19e

298.9

44.1

54.3

1.77

31.1

0.12

12/20e

334.7

49.4

60.9

1.95

27.7

0.13

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

FY18: Robust performance despite some headwinds

Strong progress continued in FY18 with Keywords showing its resilience in the face of industry turbulence. Results were essentially in line with our estimates, with revenues of €250.8m up 66% y-o-y, and up 10.1% on a l-f-l basis (implying a pick-up in H2 from 8.6% in H1), with PBT increasing by 64% to €37.9m. Profit was boosted by higher than forecast games industry tax credits (€12.2m vs Edison €7.4m), offset somewhat by a €1.7m bad debt provision against studio closures. Year-end net debt of €0.4m (2017: €11.1m net cash) and a facility of up to €105m leave ample firepower for future acquisitions.

Revised FY19 and introduction of FY20 estimates

Management has commented that the year has started encouragingly and growth drivers for FY19 look positive. H119 should benefit from projects that slipped from H218; the drag from VMC should reduce (before VMC returns to growth in FY20) and the company looks well placed for a sustained benefit from the launch of streaming services by the tech majors. Consequently we nudge up our l-f-l revenue growth from 9.4% to 11.0% (a conservative estimate), with profit and cash flows largely unchanged. Management reports a healthy M&A pipeline (potentially €40m+ indicated), which should further support growth and earnings accretion.

Valuation: Positive returns from continued execution

Following a recent pick-up, Keywords’ shares trade on a 2019e P/E of 31.1x our updated estimates falling to 27.7x in 2020, but we see scope for organic upside and potential accretive acquisition activity should bring this down further (see sensitivity analysis in Exhibit 3). Keywords’ strategy, which has delivered 53% adjusted EPS growth in FY18 and a five-year EPS CAGR of 53%, appears sustainable. As such, we believe that the shares remain set for continued appreciation.

FY18 results and estimate revisions

Our estimates for FY19 have not changed substantially and we introduce estimates for FY20. Our latest estimates are shown in Exhibit 1.

Revenues: We have made some small changes to our 2019 estimates, the principal among these being to increase like-for-like revenue growth from 9.4% to 11.0% (vs 10.1% in FY18), conservative by historical standards and towards the lower end of management’s 10–15% guidance. There appear to be a number of drivers that should support higher growth in FY19 over FY18: H119 should benefit from projects that slipped from H218; the drag from VMC should reduce (management expects flat revenues in FY19, vs an estimated 20%+ decline in FY18, before a return to growth in FY20); and the company should continue to benefit from the launch of streaming services by the tech majors.

Margins: Our 15% operating margin forecast implies a slight contraction for FY19. We believe the company could achieve a higher margin, but this level leaves headroom for reinvestment in growth. Otherwise, we have assumed gross margins remain at c 37% for both FY19 and FY20.

Tax rate: Through effective planning, Keywords’ tax rate has reduced progressively from 22% in FY16 to 19% in FY18. We expect this trend to continue and forecast a tax rate of 18.5% in FY19 and 18.0% in FY20.

Capex: Management expects lower capex in 2019 compared to 2018, so we have eased our FY19 capex assumption to €9.0m from €9.4m in 2018.

Deferred consideration: The company has a liability of c €15.9m contingent consideration on the balance sheet. We forecast that essentially all of this amount, up to €15m, will be payable in FY19 if performance conditions are met.

We have also assumed tax credits – the Multimedia Tax Credit (MMTC – Canada) and the Video Games Tax Relief (VGTR – UK) – in 2019 are maintained at the 2018 level.

Exhibit 1: Revised estimates

€000s

2018

2019e

2020e

Old

New

Change

New

y-o-y growth

Revenue

250,805

293,234

298,858

1.9%

334,721

12.0%

Cost of Sales

(154,997)

(186,134)

(188,015)

1.0%

(212,043)

12.8%

Gross Profit (inc multimedia tax credits)

95,808

107,099

110,843

3.5%

122,678

10.7%

EBITDA

44,232

50,152

51,291

2.3%

57,318

11.8%

Op. Profit (before amort. and except.)

38,916

44,054

45,094

2.4%

50,378

11.7%

Profit Before Tax (norm)

37,911

43,119

44,089

2.3%

49,373

12.0%

Profit After Tax (norm)

30,720

34,926

35,933

2.9%

40,486

12.7%

EPS - normalised (c)

45.8

53.4

54.3

1.6%

60.9

12.2%

EPS - (IFRS) (c)

23.6

42.2

40.4

-4.2%

46.6

15.3%

Dividend per share (p)

1.61

1.77

1.77

0.0%

1.95

10.0%

Closing net debt/(cash)

424

(171)

5,554

(8,596)

 

Source: Company accounts, Edison Investment Research

The final dividend was as expected at 1.08p (FY17: 0.98p), implying a 10% FY increase to 1.61p per share (FY17: 1.46p). We estimate continuing 10% y-o-y dividend growth for FY19 and FY20.

Acquisition pipeline supports growth

Keyword’s strategy of using earning enhancing acquisitions while consolidating a fragmented games outsourcer market is intrinsic to the investment case. Management has stated the acquisition pipeline remains healthy and that it continues to receive healthy inbound interest from around the world. With a debt facility of up to €105m, the company retains good firepower for M&A activity and has guided towards €40m–€80m of acquisitions in FY19.

Management has highlighted Engineering, Art Services (including Marketing) and Audio Services as service lines that are likely to see acquisition activity over the course of the year.

While our base case estimates do not reflect any material contribution from M&A, our sensitivity analysis in Exhibits 2 and 3 suggests that if management retains historical price discipline (ie paying between 7–11x PBT for acquisitions) and deploys at least €40m in cash (plus equity, assuming a 70/30 cash/equity split) in acquisitions, then it is reasonable to expect at least 30% accretion to our FY20 EPS estimate.

Exhibit 2: Sensitivity analysis – estimated 2020 EPS (c) assuming €40m in cash spend on acquisitions in FY19e

2020 EPS adjusted for 2019 acquisition pipeline

Average EV/PBT paid for acquisitions in FY19 (x)

7.0

8.0

9.0

10.0

11.0

Organic revenue growth

10.0%

82.3

80.8

79.6

78.6

77.8

12.5%

85.7

84.2

82.9

82.0

81.2

15.0%

89.2

87.6

86.4

85.4

84.7

Source: Edison Investment Research

Exhibit 3: Sensitivity analysis – estimated 2020 P/E (at share price of 1,455p) assuming €40m in cash spend on acquisitions in FY19e

2020 P/E multiple (x) adjusted for 2019 acquisition pipeline

Average EV/PBT paid for acquisitions in FY19 (x)

7.0

8.0

9.0

10.0

11.0

Organic revenue growth

10.0%

20.5

24.2

24.6

24.9

25.2

12.5%

19.7

23.3

23.6

23.9

24.1

15.0%

18.9

22.4

22.7

22.9

23.1

Source: Edison Investment Research

Exhibit 4: Financial summary

€'000s

2016

2017

2018

2019e

2020e

31-December

IFRS

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

96,525

151,430

250,805

298,858

334,721

Cost of Sales

(59,907)

(96,345)

(154,997)

(188,015)

(212,043)

Gross Profit (inc multimedia tax credits)

36,618

55,085

95,808

110,843

122,678

EBITDA

 

 

16,833

26,645

44,232

51,291

57,318

Operating Profit (before amort. and except.)

 

 

15,030

23,915

38,916

45,094

50,378

Intangible Amortisation

(1,629)

(3,038)

(6,872)

(5,500)

(5,500)

Exceptionals

(1,316)

(3,016)

(5,296)

0

0

Other

(686)

(1,426)

(4,129)

(4,542)

(4,996)

Operating Profit

11,399

16,435

22,619

35,053

39,882

Net Interest

(287)

(818)

(1,005)

(1,005)

(1,005)

FOREX

(1,737)

(3,623)

791

0

0

Profit Before Tax (norm)

 

 

14,804

23,097

37,911

44,089

49,373

Profit Before Tax (FRS 3)

 

 

9,375

11,994

22,405

34,048

38,877

Tax

(3,223)

(4,731)

(7,191)

(8,157)

(8,887)

Profit After Tax (norm)

11,581

18,366

30,720

35,933

40,486

Profit After Tax (FRS 3)

6,152

7,263

15,214

25,891

29,990

Average Number of Shares Outstanding (m)

55.9

58.7

64.3

64.1

64.4

EPS

 

 

20.8

31.3

47.8

56.1

62.9

EPS - normalised (c)

 

 

20.2

30.0

45.8

54.3

60.9

EPS - (IFRS) (c)

 

 

11.0

12.4

23.6

40.4

46.6

Dividend per share (p)

1.33

1.46

1.61

1.77

1.95

Gross Margin (%)

37.9%

36.4%

38.2%

37.1%

36.7%

EBITDA Margin (%)

17.4%

17.6%

17.6%

17.2%

17.1%

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

15.6%

15.8%

15.5%

15.1%

15.1%

BALANCE SHEET

Fixed Assets

 

 

61,873

142,927

198,055

211,323

208,883

Intangible Assets

55,495

131,610

180,086

191,698

186,198

Tangible Assets

5,498

10,111

15,002

16,658

19,718

Investments

880

1,206

2,967

2,967

2,967

Current Assets

 

 

38,677

80,182

100,348

101,870

124,077

Stocks

0

0

0

0

0

Debtors

13,879

27,473

37,019

41,091

46,022

Cash

17,020

30,374

39,870

34,740

48,890

Other

7,778

22,335

23,459

26,039

29,164

Current Liabilities

 

 

(27,830)

(51,677)

(95,031)

(74,168)

(74,168)

Creditors

(19,805)

(32,734)

(54,960)

(34,097)

(34,097)

Short term borrowings

(8,025)

(18,943)

(40,071)

(40,071)

(40,071)

Long Term Liabilities

 

 

(6,016)

(10,420)

(11,158)

(10,718)

(10,718)

Long term borrowings

(345)

(337)

(230)

(230)

(230)

Other long term liabilities

(5,671)

(10,083)

(10,928)

(10,488)

(10,488)

Net Assets

 

 

66,704

161,012

192,214

228,307

248,073

CASH FLOW

Operating Cash Flow

 

 

17,108

21,389

38,484

33,185

35,798

Net Interest

(58)

(253)

(502)

(1,005)

(1,005)

Tax

(2,129)

(4,731)

(6,304)

(8,157)

(8,887)

Capex

(2,306)

(3,803)

(9,440)

(9,000)

(10,500)

Acquisitions/disposals

(21,104)

(90,090)

(30,296)

(19,014)

0

Financing

643

82,936

174

0

0

Dividends

(825)

(867)

(1,080)

(1,141)

(1,255)

Net Cash Flow

(8,671)

4,581

(9,916)

(5,131)

14,151

Opening net debt/(cash)

 

 

(17,284)

(8,650)

(11,094)

424

5,554

Forex gain on cash

1

(891)

(3)

0

0

Other

36

(1,246)

(1,599)

0

0

Closing net debt/(cash)

 

 

(8,650)

(11,094)

424

5,554

(8,596)

Source: Keywords Studios accounts, 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 Edison analyst 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.

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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 (nor will such persons be able to purchase shares in the placing).

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Germany

London +44 (0)20 3077 5700

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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 Edison analyst 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 Myonlineadvisers Pty Ltd who holds an Australian Financial Services Licence (Number: 427484). 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

Neither this document and associated email (together, the "Communication") constitutes or form part of any offer for sale or subscription of, or solicitation of any offer to buy or subscribe for, any securities, nor shall it or any part of it form the basis of, or be relied on in connection with, any contract or commitment whatsoever. Any decision to purchase shares in the Company in the proposed placing should be made solely on the basis of the information to be contained in the admission document to be published in connection therewith.

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 (nor will such persons be able to purchase shares in the placing).

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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

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MOD Resources — Company de-risked and metrics improved

The completion of the feasibility study (FS) on the T3 copper-silver deposit, located in Botswana, is an important de-risking event for MOD Resources. The metrics contained in the FS give us a higher level of confidence in our valuation as well as the NPV and IRR calculations completed by the company. With the FS now in hand, MOD Resources can advance its mining licence application and secure the finance required to move T3 into production.

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