Pointer Telocation — Right time, right places

Pointer Telocation has worked at a frenetic pace in terms of new business development in recent quarters. The group has already announced deployment of all 5,000 driver monitoring units in its Internet of Vehicles project in New York after first announcing the project in January of this year. It has also reported being close to completing the pilot deployment of telematics units in Mexico in Q217 for Coca-Cola Femsa, after winning the deal in mid-March.

In the product space, the launch of the CelloTrack Nano IoT device has also led to a significant order from a US firm worth $2-3m pa, with deliveries to start in 2018.

Less positively, the group has recently also found itself the subject of a potential $13.8m class action in Israel.

In July PNTR completed the deployment of 5,000 driver monitoring units in its Internet of Vehicles project (conducted together with ADAS pioneer Mobileye). The fast pace of growth in the fleet of its client led it to deploy substantially more than the originally expected 4,200 vehicles.

We covered the details of the contract win in January (Taking a Ride with Uber, 29 January 2017), including management’s expectation of the contract generating ARPU of around half the current group level, but for this to be offset by the access to larger fleets over time, as more ride hail firms join the project, and the high scalability of the project. We see very good likelihood of demand for the service arising from other ride-hailing fleets, particularly if the results of the driver monitoring are shared with passengers. We believe that this will make the monitoring feature a ‘must have’ for ambitious ride hail companies, reflecting the value passengers put on their own safety and their ability to choose safer drivers.

Pointer is close to completion of the roll-out of telematics services to the Mexican arm of Coca-Cola Femsa, the world’s largest franchise Coca-Cola bottler. The project looks to be more than twice the size we estimated in our initial coverage of the contract win in March (see our update note published on 16 March 2017), when we assumed that it would apply to 1,500 units or 20% of our estimate of the Femsa Mexico fleet. We estimate that the contract should add c $1.3m pa to revenues. Pointer management believes it may be able to sign on another fleet in the Femsa group as soon as early next year and more of its fleets late next year.

In total, Femsa’s entire fleet numbered c 16,650 trucks in late 2016, implying a potential annual recurring revenue contribution for Pointer of c $2.0m, based on Pointer and another company taking part in the trial.

In Q217 PNTR concluded a major deal in the US market with a contract for the annual supply of 15,000 CelloTrack Nano units (see pages 8-9 of our initiation report published on 8 November 2016). Management expects this to translate into additional product revenues of $2-3m pa. This order is not expected to generate ongoing service revenues for PNTR. We nevertheless expect that future sales of the sensor products will be boosted by additional SaaS revenues as end-users subscribe to Pointer’s online monitoring platform, providing real-time feedback and alerts on the state and location of their cargoes.

The product neatly exploits the development of the Internet of Things by providing a wide variety of sensor units to communicate the state (temperature, light, sharp movement, altitude, humidity, noise-voice etc) of individual products or boxes/crates in transit. This information is communicated real time via a local controller unit to anywhere with access to the cloud. The product has widespread industry applications including transportation, logistics, insurance, healthcare, food and beverage, oil and gas, construction and mining, energy and utilities, retail, automotive and agriculture.

We expect the CelloTrack Nano to become a significant driver of product and service revenues going forward. With the group undertaking intensive marketing of the product following its launch earlier this year, we expect further contract wins to be announced in the coming quarters.

Alongside its first half results, PNTR’s management announced plans to launch its Connected Car offering later this year. A few days later it announced its first supply contract with The Lubinski Group, the sole importer to Israel of Peugeot, Citroen, DS and MG vehicles. Management expects its Connected Car software to be the first to market in Israel and from there it aims to become the leading supplier in its focused geographies, which include Brazil, South Africa and Argentina.

The solution is based on an Android infotainment solution, supplemented with PNTR’s value-added services. These include internet and radio, a library of approved applications such as traffic updates, navigation and other location-based services, accident detection, parking, real-time support, 24-hour access to service and emergency control rooms, car maintenance and reservation, push notifications and access to distributor promotions.

The solution operates from a dashboard screen mounted in the vehicle (see Exhibit 3) and enables the user to access controls related to the following functions:

The product is to be sold principally to vehicle importers and distributors, with the aim of improving the attractiveness of imported vehicles to the end-user and (in the case of importers) to vehicle distributors. The solution is not expected to materially supplant sales of telematics equipment to fleets, as PNTR’s telematics solutions provide this range of features in a more sophisticated form, tailored to the commercial market.

Revenues from the solution are expected in a SaaS-style monthly subscription from which PNTR will pay cellular data traffic charges.

The contract with The Lubinski Group is an important first step. The Lubinski Group is the eighth largest vehicle importer in Israel, with 2016 sales of 14,054 vehicles, representing 4.9% market share. With vehicle imports into Israel growing 12.6% to 287k in 2016 (source: CarTube.co.il) and European car sales likely to benefit from a new green taxation policy, which favours fuel-efficient and smaller vehicles, sales by The Lubinski group look well supported.

It is not yet known what proportion of its vehicles Lubinski intends to fit with the solution, but we estimate that implementation of the solution into 20% of its vehicles at a theoretical average revenue per user of $3-5 per month would result in additional annual revenues for PNTR of $0.1-0.2m.

In early August Pointer revealed that a class action had been filed against it in the Central District Court in Israel. The claimants allege that over the last seven years Pointer had charged customers for a certain class of system, while installing an inferior one. If the claim is certified as a class action, the applicant has estimated that the claim will be NIS1,332 ($368) per client, totalling NIS50m ($13.8m) in aggregate.

At this stage the company has not made any provisions for the claim, and we have not adjusted our valuation. Nevertheless, the relatively large size of the claim, representing $1.74 per share, means that we will monitor the situation going forward and this may change.

Pointer Telocation reported another strong set of results in Q217, with strong growth in subscriber numbers and margins, which fed through to a sharp increase in EBITDA and PBT.

Key underlying factors were organic subscriber additions of 8,000 during Q2, leading to a 24% y-o-y growth in subscriber numbers to 239,000. Stripping out subscribers added on the acquisition of Cielo Telecom in Brazil in Q416, the group achieved a still impressive 16% y-o-y run rate reflecting the success in marketing its MRM services across its core markets.

Following a declining trend in quarterly service revenue ARPUs during 2016, PNTR’s ARPUs trended up for the second quarter running, rising 1.7% y-o-y to $18.3 ($18.2 in Q1). The high ARPU Cielo Telecom acquisition was a contributing factor, but we also note more supportive local currency trends in Q1 and Q2, with the average quarterly Q217 exchange rate for the Brazilian real and the NIS 8% and 6% higher against the dollar on a y-o-y basis.

With the additional benefit of high operating leverage from the SaaS-based telematics services business (whereby new subscribers are added on margins well above average because they incur no additional G&A or marketing costs) the group reported a 56% surge in normalised EBITDA to $3.54m (Q1: $3.22m). Within this, service revenue margins rose to 59.2%, up 2.6bp from Q117 and 3.7bp from Q216.

Selling and marketing costs rose 16% y-o-y to $3.5m during the quarter, boosted by intense activity on the part of the sales and marketing division. A key focus was the launch of the new CelloTrack Nano, but the group also continued to push for further wins in the ride-hailing driver monitoring space in the US as well in the core MRM services area, with a consequent increase in costs. G&A costs also rose strongly, up 38% y-o-y to $2.9m, although we understand that a significant proportion of the increase was as a result of taking on additional overheads arising from acquiring the Cielo Telecom truck telematics business in Brazil in Q416. Importantly, despite the sharp increase, G&A costs as a percentage of sales revenues at 14.4% were flat on Q1 and lower than the 15.1% in Q416.

PNTR generated $1.2m in operating cash flow in Q217, down from $1.5m in Q117 and $3.4m in Q216. The principal reason for the low level of cash conversion (43% in Q2 vs 67% in Q1) was the build-up in working capital during the quarter, in particular a $1.2m increase in trade receivables. This compares with Q116 when the group reduced working capital use through an increase in accounts payable of $1.3m. We see this increased use of working capital as a necessary cost of the group’s impressive pace of expansion. Importantly, we see it as in a very good position to finance working capital expansion, in view of its strong balance sheet.

Net debt fell from $8.1m to $7.0m over the course of the second quarter of the year, as the group applied the bulk of the $1.2m in operating cash flow to debt repayment, with capex held down at $0.3m vs $1.3m in Q216. Net debt to equity consequently was reduced from 17% to a very manageable14%.

As summarised in Exhibit 5, we have increased our earnings forecasts. The key assumption changes are as follows:

We have increased our multiple-based valuation from $13.6/share (NIS48.9) to $15.4 (NIS55.1) per share, reflecting the increases to our EBITDA and EPS forecasts, as well as increases in sector multiples since our last update. We have also changed from using a range-based discount to the sector of 10-20% to using the upper point of the range of 10%. This reflects, on the one hand, our belief that the group’s increasing orientation to the strong growth segments of the telematics sector, including driver behaviour and the Internet of Things, justifies a higher underlying multiple, but also our caution about the possible impact of the potential class action case. We derive the valuation by applying these discounts to the average of the sector P/E ratio and normalised EV/EBITDA multiples for the current and next forecast years and using the average of the valuations given by the two ratios at each discount rate to provide the high and low valuation.

Our DCF share value has increased from $14.9/share (NIS53.6) to $16.3 (NIS58.2) per share, reflecting our increased earnings expectations. We have left our WACC and terminal value assumptions unchanged.