Daktronics: Stable CFO And Potential Internationalization Make The Stock A Buy
Summary
- Daktronics, Inc. presents itself as the world's industry leader in designing and manufacturing electronic scoreboards, display systems, and screen video displays.
- With know-how accumulated in the U.S., I believe that the company will most likely see a steady increase in its international sales in the coming years.
- According to the most recent 10-K, the backlog increased significantly in 2021. We are talking about more than $300 million in orders for integrated electronic display systems.
- If the company makes acquisitions abroad or opens new offices abroad, direct contact with clients may generate even more revenue.
- I would also expect significant FCF growth from further standardization and commonality of parts, other lean manufacturing techniques, and automatization of processes.
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With stable cash flow from operations, Daktronics (NASDAQ:DAKT) is a leader in its industry. In my opinion, if the management opens new offices abroad, and signs more agreements with resellers, revenue would trend north. I am quite optimistic about the new automatization and improvement in the manufacturing processes announced recently. With a significant amount of cash to finance these initiatives, Daktronics appears somewhat undervalued. My DCF model indicated a target price close to $9.3, whereas the current market price is close to $4.1-$5.7. Thus, I am a buyer.
Daktronics: Diversified Business Model, International Sales, And Growing Backlog
Founded in 1968, Daktronics, Inc. presents itself as the world's industry leader in designing and manufacturing electronic scoreboards, display systems, and screen video displays.
Readers may have seen the company's display systems while driving, watching a basketball match, or ordering food in a restaurant:
I believe that the company's activities are well diversified. Management obtained most of its revenue from live events, commercials, and transportation.
Interestingly, the company's international sales represent only 13% of the total amount of revenue. In my view, there is significant room for improvement outside the United States. With know-how accumulated in the U.S., I believe that the company will most likely see a steady increase in its international sales in the coming years:
Investor Presentation
There is another clear fact that indicates future sales growth. According to the most recent 10-K, the backlog increased significantly in 2021. We are talking about more than $300 million in orders for integrated electronic display systems, which management expects to recognize in net sales in the future:
Our backlog as of May 1, 2021, was $304 million as compared to $268 million as of May 2, 2020. We expect to fulfill the backlog as of May 1, 2021, within the next 24 months. Source: 10-K
With Previous FCF Growth, More Resellers, And Automatization Of Processes, I Expect A Target Price Of $9.3
For those who don't know Daktronics' financial statements, let me mention that in the last five years, the company reported an average sales growth of -2%, EBITDA margin of 4%, operating margin close to 1%-2%, and average tax close to 37%. The company's EPS remained almost positive and close to $0.05-$0.23:
My Figures
The company's CFO was also positive, and grew from $20 million in 2012 to $67 million in 2021. The D&A has been always close to $14-$17 million:
Investor Presentation
In my view, if management successfully signs agreements with more resellers in Europe, Asia, and Latin America, revenue will most likely trend north. If the company makes acquisitions abroad or opens new offices abroad, direct contact with clients may generate even more revenue:
We utilize resellers outside North America for large integrated system sales where we do not have a direct sales presence. The majority of our products sold by resellers in North America are standard catalog products. We support our resellers through direct mail/email advertising, social media campaigns, trade journal advertising, product and installation training, trade show exhibitions, and accessibility to our regional sales or service teams and demonstration equipment. Source: 10-K
I would also expect significant FCF growth from further standardization and commonality of parts, other lean manufacturing techniques, and automatization of processes. The company highlighted these practices in its most recent annual report and in presentations to investors:
A key strategy of ours is to increase standardization and commonality of parts and manufacturing processes across product lines through use of product platforms to increase efficiencies. Other strategies include supplier management programs and lean manufacturing techniques. Source: 10-K
Investor Presentation
I tried to make very conservative assumptions about the future. I included 2.6% sales growth, EBITDA margin of 7%-3%, effective tax of 22.7%, and capex/sales of 1.6%. The results include the FCF of $45-$61 million:
My Figures
Like other investment advisors, I believe that a WACC of 7.5% appears pretty fair. I used the cost of equity of 12%, the cost of debt of 4.25%, and a beta of 1.8-1.9x. If we also use a conservative exit multiple of 9x EBITDA, the IRR would stand at 24%-25%, and the target price would be close to $9.3:
My Figures
Daktronics Reports Cash On Hand To Finance The Company's International Expansion
With an asset/liability ratio of 1.9x and $59 million in cash, I believe that the company's financial situation is stable. In my view, management has sufficient liquidity to design new products, and advance control systems:
The company's obligations don't seem significant. As of October 30, 2021, the company reported $15 million in long-term warranty obligations and $10 million in long-term contract liabilities. I wouldn't expect most investors to be afraid of the company's contractual obligations:
10-Q
Supply Chain Risks, Miscalculation Of Future Expenses In New Agreements, And Competition Imply A Target Price Of $4.7
Daktronics may suffer from competitors if the company does not invest sufficiently in improvements and innovations. I also believe that management may suffer FCF margin deteriorations if competitors lower their prices. This risk was disclosed in the most recent annual report:
The electronic display industry is characterized by ongoing product improvement, innovations, and development. We compete against products produced in foreign countries and the United States. Our competitors may develop lower-cost or lower-featured products, may be willing to charge lower prices to increase their market share, or market new and unique product, service, and controller offerings. Source: 10-K
Supply chain risks and shortage of components may be very detrimental for the company. Clients may not receive the company's products, or prices of components could increase. In this detrimental case scenario, management may suffer a decrease in the FCF margins, which may diminish the demand for the stock. As a result, the WACC could increase, and the intrinsic valuation would diminish:
Electronic components used in our products are sometimes in short supply, which may impact our ability to meet customer demand. If we experience shortages or increases in the price of raw materials and components and are unable to pass on those increases to our customers or are unable to manufacture our products at all or on a timely basis, it could negatively affect our business, financial condition, or results of operations. In addition to increased costs, these factors could delay the delivery of products, which may result in the assessment of liquidated damages or other contractual damages that could negatively impact our profits. Source: 10-K
Under this detrimental case scenario, I would also include certain mistakes while calculating the costs of projects. As a result, the company may fail to foresee the amount of free cash flow to be obtained. In this case, the company could report less EBITDA and FCF than expected:
Unanticipated costs that exceed our original estimates may not be recoverable under fixed-price contracts. Unanticipated cost increases may occur as a result of several factors including, but not limited to: increases in the cost, shortages, or non-availability of materials or labor; unanticipated technical problems; required project modifications not initiated by the customer; suppliers' or subcontractors' failure to perform or delay in performing their obligations; logistics disruptions or delays; and capacity constraints. Source: 10-K
Under the previous conditions, I used -2% sales growth from 2022 to 2032, so that 2032 sales would be $335 million. If we also use an EBITDA margin of 5%, D&A of $10-$20 million, and changes in working capital/sales of 3%, the FCF would be close to $45-$30 million:
My Figures
Finally, with 45 million shares outstanding, a WACC of 10%, and an exit multiple of 5x, I obtained the IRR of 10% and a target price of $4.7. Traders are currently buying shares at $4.1-$5.9, so I don't believe that there is a significant downside risk.
My Figures
My Takeaway
Daktronics reports stable cash flow from operations. In my view, management has accumulated a significant amount of know-how. If the company opens offices abroad or signs more agreements with resellers, I would be expecting a significant increase in international FCF growth. Management is also implementing lean manufacturing, and is trying to find new efficiencies in the manufacturing process. Putting everything together, I obtained a target price of $9.3 and limited downside risk. Given the current price mark, I am buying shares.
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Disclosure: I/we have a beneficial long position in the shares of DAKT 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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.