- SCKT expects contactless products to generate meaningful revenue from 2022 onwards.
- Supply chain disruptions could go past 2021, but management has taken strategic actions to make sure inventory keeps up with demand.
- As the economy continues its final leg of re-opening, SCKT will greatly benefit from retail.
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The company announced strong Q3:21 results, delivering its sixth consecutive quarter of operating profitability. Revenue rose 54% YOY. Management did caution against supply shortages and inflationary pressure to persist in 2022, which could impact profitability. We increase our target price to $10.50 per share (earlier $9.50) and keep our rating at Buy.
- Q3:21 revenues were $6.3 million, up 54% from Q3:20 driven by strong demand from retail industry which continues to benefit from reopening of the economy.
- Gross profit for Q3:21 was $3.4 million, compared to $2.2 million in Q3:20. Gross margin decreased 110 bps YOY to 54.2% in Q3:21.
- Operating income stood at $0.95 million in Q3:21, versus $0.81 million in Q2:20 due to higher revenues and lower operating expenses (as a % of sales).
- Net income was $0.64 million in Q3:21 or $0.07 per diluted share versus loss of $4.0 million or ($0.62) per diluted share in Q3:20.
- We adjust our estimates based on the quarter-end results and management’s commentary. We increase our target price to $10.50, with an implied capital appreciation potential of 68%. We maintain our rating at Buy.
- The company is highly dependent on application developers to integrate SCKT’s scanning products into their applications. If these applications are delayed or are unsuccessful, then it could result in less business for the firm, thereby negatively impacting sales.
- The sales are dependent on a limited number of distributors. Thus, the loss of any one distributor may have a material adverse effect on future operating results and financial condition.
Quarterly Summary - Q3:21
- Revenues up 54% vs. prior year. Total revenues increased ~54% to $6.3 million versus $4.1 million in Q3:20. The increase was driven by solid demand for its business applications by its retail-centric customers led by Shopify (SHOP). SCKT’s retail business continues to benefit from the reopening of the economy.
- Gross profit was up 50.5% vs. prior year. Total gross profit for Q3:21 was $3.4 million, compared to $2.2 million in Q3:20. Gross margin was 54.2%, down 110 bps compared to 55.3% in Q3:20 impacted by increase in component costs and freight increases.
- Operating expense excluding impairment was ~$2.4 million, an increase of 35% versus ~$1.8 million in the prior-year period. However, operating expense as a % of sales showed significant decline to 39% in Q3:21 versus 44.4% in Q3:20. This highlights the operating leverage inherent in the business.
- Operating income stood at $0.95 million in Q3:21, versus $0.81 million in Q3:20. The improvement was primarily due to higher revenues and lower operating expenses (as a % of sales).
- Net income stood at $0.64 million in Q3:21, or $0.07 per diluted share, versus net loss of $4.0 million or ($0.62) per diluted share in Q3:20. We note that Q3:20 figures include goodwill impairment loss of $4.43 million.
- Supply chain disruptions could persist well into 2022. SCKT noted that it is getting impacted by industry-wide electronic component shortages and delay. However, it took various strategic actions to increase its inventory in 2020 and throughout 2021, so it is relatively better positioned. But it anticipates the component shortages, lengthening lead times and inflationary costs will persist well into 2022.
- Investment in NFC products. SCKT is optimistic about the NFC reader solutions market and expects it to be a significant revenue driver in 2022 and beyond. Currently, majority of NFC solutions are payment centric, but going forward, SCKT expects NFC technology to be used more in non-payment situations such as for reading identity information from digital IDs. SCKT’s S550 and D600 NFC products are the ideal readers for the non-payment market opportunity.
- Outlook. SCKT noted that Q4 is a seasonally weak quarter but still expects to deliver solid year-over-year growth. The revenue is expected to be slightly lower versus Q3 2021.
For FY 2021, we forecast revenue of $23.1 million, an increase of 47.4% YOY. The company expects retail to serve as a key driver of its underlying growth in 2021 as the economy re-opens. The company also anticipates a significant opportunity in contactless readers. We do anticipate gross margins to come under pressure impacted by supply shortages and inflationary headwinds. We forecast gross margin of 54% for FY 2021. We forecast operating income of ~$2.8 million and net income of ~$4.3 million. This implies earnings per share of $0.46. We note that this includes $1.9 million of tax benefit, excluding which the earnings per share is forecasted at $0.26.
For fiscal 2022, we forecast revenue growth of 22.5% to $28.3 million. We expect gross margin of ~53.9%. We forecast operating income of ~$3.7 million and net income of $3.1 million. This implied diluted earnings per share of $0.35.
Valuation And Recommendation
We value SCKT using industry peer companies (P/S multiple) blended with our Discounted Cash Flow (DCF) valuation to derive a fair value target price for the company.
We are valuing SCKT using P/S multiple. While there is a lack of comparable peer group, we think the most relevant comparison group include Zebra Technologies (ZBRA) and Honeywell International (HON). SCKT trades at ~1.7x fwd sales, which is at significant discount to ZBRA (5.3x) and HON (4.1x). Given SCKT’s niche positioning in its industry as well as improving growth prospects, we believe the discount should narrow.
We value SCKT at 3.5x 2022 sales. We weight this discounted multiple target to equal 50% of our price target. The multiple-based target price is $11.10.
We weight the other 50% of our target using our Discounted Cash Flow target. Our DCF model uses our forecasted free cash flow to the firm over one year, and then grows EBIT at a 9% rate over years 2-8. We apply a weighted average cost of capital of 6.02%. Our DCF produces a value of $9.64.
The combination of $11.10 at 50% and $9.64 at 50% results in a weighted average price target of $10.37, which we round up to $10.50.
The exhibit below summarizes our peer group multiples.
Exhibit 1: Socket Mobile, Inc. Peer Group Multiples and Price Targets
Source: Socket Mobile, Inc. and Singular Research
We believe SCKT presents a compelling investment opportunity for several reasons. The first is that as the economy furthers its reopening, retail will start picking up more and more leading to additional revenue for SCKT. Secondly, management is well-aligned not only through current insider ownership but also has bonuses calculated based on profitability metrics. Thirdly, management has pro-actively handled the anticipated continuance of supple chain issues creating a rare sight of not having to worry about future demand being able to be met.
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Analyst’s Disclosure: I/we have a beneficial long position in the shares of SCKT either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
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