Diebold Nixdorf: Steering Effectively Through The Financial Troubles

Summary

• Self-checkout products and the DN Series ATMs constitute DBD's most influential drivers in the post-pandemic scenario.
• It plans to tap into the electric vehicle charging stations market in its diversification initiative.
• Supply chain challenges can put pressure on the operating margin in the near term.
• The stock is relatively undervalued; however, negative shareholders' equity and negative cash flows pose financial risks.

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DBD's Drivers And Challenges

I expect Diebold Nixdorf's (NYSE:DBD) self-service offerings and automation to sync with the changing customer behavior in a post-pandemic world. Consequently, its backlog in the Americas banking segment has gone up significantly in recent times. Internationally, it received contracts in Greece, Malaysia, and Mexico. The company also plans to leverage its ATM network expertise in the diversification initiatives into the electric vehicle charging stations market.

However, the company's operating margin has been compromised by DN Series product installations shifting from North America to Latin America and higher costs associated with supply chain constraints. Plus, a working capital drag due to increased inventory level dried up cash flows. Negative cash flows have added to the woes from negative shareholders' equity. Nonetheless, the management continues to be optimistic about generating positive free cash flows. The stock is relatively undervalued versus its peers. Investors with some risk appetite might want to hold the stock for generous returns in the medium term.

Structural Changes And International Projects

As the traditional banks shift away from the conventional teller window towards ATMs, the bank reduces branch footprints and saves on real estate costs. Following the pandemic, consumers' shopping experience has changed, and e-commerce has grown. Since customers now prefer lower touch options during the purchase process, DBD's self-checkout offerings are better options. According to a study cited by the company, the self-checkout installed base will triple by 2026 compared to 2020. Overall, higher demand for self-service and automation will likely bring a structural change.

Investors may note the technological advantages of the DN Series are its advanced, self-service capabilities, including video-as-a-service, cash recycling, cardless transactions, and video teller access. DBD undertook the DN Now initiatives in 2019, with a target gross annualized savings of ~$500 through 2021. I discussed this in my previous article. In Q3 in North America, the company received a significant managed services award, including a large order of DN Series ATMs. It received a similar award in Mexico. In Greece, it received a contract for DN Series cash recyclers. Standard Chartered Bank is upgrading its legacy system to the DN Series in Malaysia. Similarly, in Cambodia, a leading retail bank selected the solution of DN SeriesTM ATMs, software, and professional services. In November, it formed a long-term strategic alliance in Spain that enables financial institutions to outsource their self-service network. All these measures should push the company's topline and margin higher.

Other Growth Strategies

DBD has recently forayed into horizontal electric vehicle charging stations in its diversification initiative. Because of the similarities between ATMs and EV charging stations, it now leverages its ATM expertise. The company estimates that charging stations in the US and Europe can increase by 200% by 2025. In this fast-growing market, the company has secured contracts for a solution and is discussing with the top EV charging station private companies.

The Outlook: FY2021 and Q4 2021

The management expects DBD's FY2021 revenues to remain nearly unchanged (0.6% up) compared to FY2020. A $140 million revenue deferral lowered the FY2021 revenues guidance due to the supply chain challenges. As a result of the margin push and revenue growth discussed earlier, its adjusted EBITDA can grow at a much sharper rate, by 48% (at the guidance mid-point), in FY2021.

The management has a strong growth expectation in Q4 following a robust demand for America's banking and retail business segments. It started the quarter with a backlog that is $205 million higher than a year ago. In America's banking, it expects over a 50% increase in backlog. As we advance in 1H 2022, the company sees a higher backlog than a year ago. However, as demand grows, it sees inflationary pressures on supply chain logistics that would affect the margin adversely.

What Are The Current Drivers?

In Q3 2021, the Americas Banking segment revenues decreased by 6%, following lower software and services revenues as the mix of installations shifted from North America to Latin America. Investors may note that many of its manufacturing facilities for DN Series ATMs are located in Europe and Asia. Therefore, a locations change can hurt the margin. To mitigate the effect, its Americas manufacturing operations assist in manufacturing certain higher value cash recycling DN Series ATMs. As a result, the Americas Banking segment backlog went up by 54% year-over-year.

Revenues from the Eurasia Banking segment, too, declined by 11% during this period due to the supply chain delays and the termination of expired service contracts. On the other hand, the Retail segment revenue increased by 10% year-over-year in Q3 2021 due to higher point-of-sale checkouts.

The gross margin contracted by ~150 basis points in the past year as transport times extended and inbound technology components faced delays, which affected revenues and margin. However, the improved performance of the DN Series ATMs partially offset the adverse impact.

Balance Sheet Reflects Risks

In 9M 2021, DBD's cash flow from operations (or CFO) sunk further into negative (-$291.6 million) compared to a year ago, although the year-over-year revenues remained resilient. As a result, its free cash flow (or FCF) remained negative in 9M 2021. A more extended lead time required in the supply chain caused the inventory to go up, which led to the cash flows remaining negative in 2021.

DBD has been incurring net losses over at least the past several quarters, which led to accumulated deficits. A huge, accumulated deficit has turned its shareholders' equity into negative territory. On top of that, it had a net debt of $2.28 billion as of September 30, 2021. Its liquidity was $343 million as of that date. It has insignificant debt maturities until 2023.

DBD expects to generate $80 million to $100 million of positive cash flow in FY2021, which is lower than its previous guidance. However, given the negative cash flow from operations in the first nine months, it looks unattainable.

Relative Valuation And Target Price

DBD's forward EV-to-EBITDA multiple contraction versus the adjusted trailing 12-month EV/EBITDA is steeper than its peers, which typically reflects a higher EV/EBITDA multiple than the peers. The stock's EV/EBITDA multiple (~11x) is lower than its peers' (NCR, ORCL, and FISV) average of 14.8x. So, the stock, I think, is undervalued at the current level.

According to Seeking Alpha, three sell-side analysts recommended a "Bullish" (BUY) on DBD (includes "Very Bullish"), while one recommended a "Neutral" or "Hold." None recommended "Bearish." The sell-side analysts' average target price is $15, which, at the current price, yields 69% returns.

What's The Take On DBD?

Source

DBD's bottom line has been affected by the unfavorable geographic mix. Because the DN Series product installations shifted from North America to Latin America, putting pressure on its operating margin. I think it continues to face headwinds due to supply chain challenges. Its cash flows turned strongly negative because a more extended lead time in the supply chain caused the inventory to increase. The stock underperformed the S&P 500 in the past year, reflecting customers' concerns.

Undoubtedly, the US emerging strongly from the COVID-19 pandemic brought some growth factors back. I expect higher demand for self-service and automation to bring a structural change. The Americas Banking segment backlog went up significantly in Q3. Internationally, it received contracts in Greece, Malaysia, and Mexico. Over the past few years, accumulated losses have placed it at financial risks. I think the positive factors will balance the negatives, and investors might want to hold the stock for more robust returns in the future.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. 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.