Majesco: Will Cloud Transition Lead To A Higher Valuation?

Summary

• Potential increase in valuation multiple due to transition to a cloud-based SaaS (Software as a Service) business model.
• For growth and momentum investors, revenue growth of 20% during the recent quarter with the stock breaking out to all-time highs.
• For value investors, trading at an enterprise value to revenue multiple of 2.6x, a significant discount compared to companies in its peer groups (i.e 5-15x).
• Assuming Majesco continues to execute, the stock price should appreciate due to various drivers including revenue growth, gross margin improvement, and valuation multiple expansion.

Fundamental Analysis

Company Overview

Majesco (NASDAQ:MJCO) is a provider of core insurance technology software and IT services to insurance carriers worldwide. The company delivers software and IT services in core insurance areas including policy administration, product modeling, new business processing, billing, claims, producer lifecycle management, and distribution. Majesco focuses on one vertical, insurance, and has developed insurance software, support, and business consulting expertise over two decades of serving the insurance vertical. The company has more than 140 insurance carriers using its product line. In addition to the United States, the firm operates in Canada, Mexico, the United Kingdom, Malaysia, Singapore, Thailand, and India. Customers using its core insurance software solutions include property & casualty, life & annuities, and pensions and group/employee benefits providers.

Source: Majesco's 10-K and web site

Financials

Majesco reported revenue of $33.5 million for the quarter ended June 30, 2018, a 20% increase compared to the prior year. Gross profit margin was 47.9% for the quarter ended June 30, 2018, compared to 42.6% for the quarter ended June 30, 2017. The increase in margin was primarily due to higher cloud revenue in the quarter as will be discussed later in this article. As a result, the company reported a profit of $0.03 per share for the quarter ended June 30, 2018 compared to a loss of $0.05 per share for the quarter ended June 30, 2017.

There is potential for additional upside if Majesco can continue its trajectory of revenue growth along with an increase in gross profit margins. Year over year, its operating expenses were relatively flat so any increase in gross profit basically drops to the bottom line.

Business Model Transition

Majesco has been transitioning its business to a cloud-based model, which should lead to an increase in gross profit margins as well as a higher percentage of recurring revenue due to the subscription nature of the business. The following slides from Majesco's investor presentation highlights some of the success they have had in changing over their business model.

Source: Majesco's Investor Presentation - May 29, 2018

In addition to its business model transition, Majesco could also be a beneficiary from venture capital firms funding various FinTech insurance companies. These FinTech companies could be more open and comfortable using cloud-based solutions to run their businesses presenting an additional revenue opportunity in this space.

Comparisons

• Insurance Software Peers

Ebix (EBIX) and Guidewire Software (GWRE) are two software companies that also specialize in the insurance space. Below is a table comparing Majesco to these two companies on a revenue basis since Majesco just turned profitable.

MJCO trades at a significant discount to its peers although this could be attributable to the fact that it's a smaller company and not as heavily followed. It should also be noted that EBIX's growth was primarily due to acquisitions and that on a pro forma basis, revenue would have declined slightly.

• Cloud Computing Index

The BVP Cloud Index from Bessemer Venture Partners lists publicly traded cloud companies and their valuation multiples. A good portion of them trade at between 5-15x 2018 revenue with a mean and median of 9.2x and 8.5x, respectively. If MJCO can continue its transformation to that of a cloud-based subscription model similar to the companies in this index, a higher multiple could be justified.

• eGain Corporation (EGAN)

One company that was in a similar situation to Majesco in that it was also transitioning its business model to a cloud-based subscription one is eGain, a customer engagement solutions provider. Although in a different industry, eGain provides a template as to the potential for stock price appreciation once the business model transition is in progress. Over the past year, eGain went from a low of $1.55 to a high of $19.05. As of August 3, eGain closed at $13.30 and trades at an enterprise value to trailing twelve month revenue multiple of approximately 6x.

Technical Analysis

Majesco's stock recently broke out to all-time highs in July surpassing its previous high of $6.74 a share. Followers of the Darvas Box System from the book, "How I Made $2,000,000 in the Stock Market," will see this is as a positive sign. Although Darvas admits that it's 50/50 as to whether a stock will continue to break out, he attributes his performance to cutting losses if the stock goes down and holding on to the winners.

The company has approximately 39 million shares outstanding although over 83% is held by entities associated with the management team and board of directors. The estimated float of shares available for trading is therefore 6 to 7 million shares. One can view the significant management ownership as a positive since they have skin in the game and incentive for the stock to go higher.

Recommendation

Majesco has the potential for further share appreciation due to the following factors:

• Higher valuation multiple assigned to Majesco's revenue as the company increases its cloud-based and recurring revenue stream.
• Increasing profitability as the company's gross profit margin improves over a relatively fixed operating expense base.
• On a technical basis, momentum investors creating additional demand for the stock as it continues to make new all-time highs.

With these factors in mind, Majesco is more suited for long-term speculative investors as the stock is not actively traded. Limit orders are recommended when buying or selling the stock.

Risk Factors

• Tougher comparisons are ahead in the next few quarters, which could lead to a deceleration in the growth rate year over year.
• Customer concentration risk is another potential risk factor. For the fiscal year ended March 31, 2018, Majesco's top five customers accounted for approximately 28.4% of its revenue. Should it lose any one of these customers, the growth thesis would be impacted.
• The cloud transition could take longer than expected, testing investors and Wall Street's patience.

Trade Disclosure

The author added to his position in Majesco on July 27 at $7.45 per share. Some of the author's trades in this and other stocks can be viewed here.

Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.

Analyst’s Disclosure: I am/we are long MJCO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.