Digi International: It's Not Looking Good Yet

seekingalpha09-06

Digi International Inc. revenues have been declining with no clear end in sight, leading to a cautious and pessimistic short-term outlook.Despite maintaining efficiency, the company's bottom line took...

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}\n.meta {color:#5e5c6d;font-size:13px;margin:0 0 .5em; }\na{text-decoration:none; color:#2a4b87;}\n.meta .head { display: inline-block; overflow: hidden}\n.head .h-thumb { width: 30px; height: 30px; margin: 0; padding: 0; border-radius: 50%; float: left;}\n.head .h-content { margin: 0; padding: 0 0 0 9px; float: left;}\n.head .h-name {font-size: 13px; color: #eee; margin: 0;}\n.head .h-time {font-size: 11px; color: #7E829C; margin: 0;line-height: 11px;}\n.small {font-size: 12.5px; display: inline-block; transform: scale(0.9); -webkit-transform: scale(0.9); transform-origin: left; -webkit-transform-origin: left;}\n.smaller {font-size: 12.5px; display: inline-block; transform: scale(0.8); -webkit-transform: scale(0.8); transform-origin: left; -webkit-transform-origin: left;}\n.bt-text {font-size: 12px;margin: 1.5em 0 0 0}\n.bt-text p {margin: 0}\n</style>\n</head>\n<body>\n<div class=\"wrapper\">\n<header>\n<h2 class=\"title\">\nDigi International: It's Not Looking Good Yet\n</h2>\n\n<h4 class=\"meta\">\n\n\n2024-09-06 20:00 GMT+8&nbsp;&nbsp;&nbsp;<a href=https://seekingalpha.com/article/4719363-digi-international-not-looking-good-yet><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>Digi International Inc. revenues have been declining with no clear end in sight, leading to a cautious and pessimistic short-term outlook.Despite maintaining efficiency, the company's bottom line took...</p>\n\n<a href=\"https://seekingalpha.com/article/4719363-digi-international-not-looking-good-yet\">Source Link</a>\n\n</div>\n\n\n</article>\n</div>\n</body>\n</html>\n","isBrief":false,"type":0,"news_type":1,"symbol":null,"symbol_name":null,"start_time":0,"source_url":"https://seekingalpha.com/article/4719363-digi-international-not-looking-good-yet","article_id":"2465130566","we_media_id":null,"thumbnails":["https://static.seekingalpha.com/cdn/s3/uploads/getty_images/1513525898/image_1513525898.jpg"],"rights":null,"url":"https://stock-news.laohu8.com/highlight/detail?id=2465130566","pubTimestamp":1725624000,"sourceInfo":{"source_id":"seekingalpha","name":"Seeking Alpha"},"weMediaInfo":null,"summary":"In Q1 of the year, the company did a “debt issuance cost write-off” of almost $10m, which dragged its GAAP net margin considerably down ever since, when looking at the TTM number as Seeking Alpha shows. Under adjusted numbers, this wouldn’t be included. The management kept mentioning they had improved the company’s cost structure by optimizing the supply chain to bring inventories down and whatnot. However, these comments may be just applying to","collect":0,"end_time":0,"defaultTopTitle":"seekingalpha.com","property":[],"viewcount":null,"language":"en","relate_stocks":{},"translate_title":"Digi International：看起来还不太好","themeId":null,"isJumpTheme":false,"ttsUrl":null,"symbols_score_info":{"DGII":1},"content_text":"Digi International Inc. revenues have been declining with no clear end in sight, leading to a cautious and pessimistic short-term outlook.Despite maintaining efficiency, the company's bottom line took a significant hit due to a $10m debt issuance cost write-off.The company's financial position shows improvement in debt reduction, but the overall economic uncertainty continues to impact top-line performance.Current valuation suggests Digi International is trading at a premium to its intrinsic value, making it prudent to wait for a better entry point.   simpson33/iStock via Getty Images Introduction I wanted to revisit Digi International Inc. (NASDAQ:DGII). The last time I covered the company was back in September of last year, right before it announced its full-year results and its share price went nowhere. It’s been about a year since then, so I wanted to look at how the company’s operations performed and whether it would be a good time to start a position. Digi International’s revenues have been declining, with no end in sight. However, the company can maintain most of its efficiency. Too much uncertainty in the economy keeps me cautious and pessimistic in the short run. Therefore, I will continue to observe from the outside and will revisit once the company’s shares become cheaper once again. Financials Looking at the company’s top line, we can see that at the end of FY23, which ended in September ’23, it started to deteriorate. The next three quarters have been in a downtrend, which is not ideal. It also looks like it has been accelerating. In the first two quarters of the year, revenues fell on average 3%, but in Q3, it fell over 6%. Looking at the company’s transcripts, management apparently hasn’t mentioned any specifics on why revenues are trending down. They were more focused on annualized recurring revenue, which has seen some growth, but not enough to offset the overall downtrend in the top line. Looking at the recent 10Q, the management attributes the subpar revenue numbers to “macroeconomic conditions.” These are: “uncertain as to when and to what degree sales cycles will return to normal conditions” and “expect this to adversely impact [the company’s] results for at least the remainder of fiscal 2024.” Seeking Alpha Let’s see how the company’s margins developed in such a tough macroeconomic environment. Here, we can see gross margins and operating margins remained unaffected, while the company’s bottom line took a decent hit, around 50% from the beginning of the year. So, what happened here? In Q1 of the year, the company did a “debt issuance cost write-off” of almost $10m, which dragged its GAAP net margin considerably down ever since, when looking at the TTM number as Seeking Alpha shows. Under adjusted numbers, this wouldn’t be included. The management kept mentioning they had improved the company’s cost structure by optimizing the supply chain to bring inventories down and whatnot. However, these comments may be just applying to the company’s adjusted numbers and not GAAP, which is unfortunate. On a positive note, at least gross margins did show some improvement. Seeking Alpha Looking at other important efficiency and profitability metrics, specifically the ROA and ROE, we can see quite low returns here, and well under what I would consider decent. I am looking for at least 5% on ROA and 10% on ROE. The company is nowhere near those numbers, which suggests the management is not doing that good of a job of utilizing the company’s assets and shareholder capital efficiently, thus, not creating much value there. Seeking Alpha In terms of competition, the company doesn’t provide direct competitors on its 10Ks. This is unfortunate. However, I went ahead and asked Gemini to provide me with a few that would be publicly traded, and most of them seem to be operating in the IoT space, so I will stick to these. One thing to note, some of them are much bigger than DGII, so the comparison is not ideal, but just a guide to how the company stacks up in general. I like to look at the company’s ROTC and compare it to its peers. Usually, I like to see over 10% ROTC, which would tell me that the company has a strong moat and competitive advantage, but depending on the industry, it may not be possible to reach 10%. Here we can see none of the companies can get above 10%. This could mean it is just not possible right now, however, what we can also see is that DGII is underperforming there quite a bit compared to its peers, which is not ideal. Seeking Alpha In terms of the company’s financial position, as of Q3 ’24, DGII had around $28m in cash and equivalents, against $151m in long-term debt, which has been reduced by $30m since FY23. That reduced the company’s interest expense considerably. So, is the debt on the books still worrisome? Little less given the efforts of paying it down. In the latest quarter, the company did around $13m in EBIT, while paying out $3.2m in interest expenses on debt. That means the company’s interest coverage ratio is around 4x. It is above what analysts consider health (2x) but slightly below my conservative requirements of at least 5x. However, since the company is working on bringing the debt number down, I think it is not a problem. The company is at no risk of insolvency. At the same time last year, the company was paying out double interest expenses, so it has been good progress so far. Overall, I am not very excited about the company’s progress over the last year or so. The company’s top line took a hit, while efficiency and profitability stayed still, which is better than decreasing but, there have been examples of other companies where revenues declined, they managed to improve profitability considerably to offset the softness. I do not see that happening here, at least in GAAP terms. Comments on the Outlook So, my biggest concern right now with the company is its ability to reverse the revenue downtrend, which I also think is out of the company’s hands. The company is at the mercy of customers returning. The soft demand due to the macroeconomic uncertainty will continue to weigh on the company’s top-line performance, and as I mentioned earlier in the quote from its latest 10Q report, it is difficult to predict when this shift will happen. Everyone right now is expecting the FED to start cutting interest rates this month (September). Whether that will be 25bps or 50bps is uncertain, but with the flood of disappointing economic reports this past week or so, it seems a lot more certain that 50bps is definitely on the table. I don’t want the FED to cut interest rates too quickly, as that leads to worse stock market performance in the end, so a 25bps would be ideal. Furthermore, cutting interest rates signals that the economy is not doing too well. This is evidenced by a trove of bad economic reports, with large downward revisions in employment numbers, so I expect the demand to remain soft for a lot longer. The beginning of rate cuts may force many customers to wait out even longer in hopes of further rate cuts. On the margin front, the company’s SmartSense has been doing wonders. This technology provides IoT-based perspective analytics solutions, which help to enhance operational efficiency, compliance, and QC. Customers can take advantage of all things considered monitoring, for example, for food safety, which detects changes in temperature, or within the pharmaceutical setting to comply with FDA and VFC regulations. Temperature monitoring also applies to temperature-sensitive products in transit. SmartSense depends on annual recurring revenue, and we saw that the company is very proud of the growth here so far. However, as I mentioned, it isn’t enough to offset overall top-line declines. In terms of margins, though, ARR comes with a much higher margin profile, so it will continue to improve the company’s efficiency and profitability, but it will take much longer, especially if softer demand persists. In summary, I don’t see improvements/catalysts that could help the company’s top line in the short run. The uncertainty in the markets and global economic outlook doesn’t inspire confidence. Let’s look at some updated discounted cash flow (“DCF”) valuation assumptions. Valuation As usual, I’ll keep it conservative. Starting with revenue assumptions, analysts do not see growth for FY24, which makes sense when you look at the last 3 quarters of declines. Analysts predict around a 5% decline, and a 3% growth the next year. I’ll stick with these two assumptions for my model. After that, I am modeling a slight bounce of around 8%, and for the whole period, the company will see a 4% CAGR, which is well below the company’s 10-year, 5-year, and 3-year CAGRs of 10%, 15%, and 20%, respectively. I cannot model higher growth numbers for now because I don’t know when it will improve, however, when that time comes, I will adjust accordingly. Author For margins, I decided to go with the company’s non-GAAP metrics, just like I did before. I decided to go with adjusted numbers because the company prefers to use these as the main gauge of the company’s “true value.” This way, I am at least giving it a chance to be in a somewhat close range to where the company trades. Over the period, I kept these fixed because adjusted margins are already much healthier than under GAAP terms. Author For the DCF, the company’s WACC turned out to be around 7.7%. I thought it was a little too low for my risk tolerance. Therefore, I added 1% and made that my discount rate, and I also went with a 2.5% terminal growth rate. Author Additionally, I decided to add another 30% discount to the final intrinsic value, to give myself a bit more room for error in the estimates above. With that said, DGII’s intrinsic value to me is around $23 a share, which means it is trading at a decent premium to its fair value. Author Closing Comments So, it appears that Digi International Inc. is still on a bit of an uncertain trajectory in terms of performance, which heavily depends on the customers’ demand improvement. I don’t see that happening any time soon, however. I would like to see how the next few quarters develop and see whether there will be any meaningful improvements on that front. In addition, I would like to see the company’s key business metric, the ARR, accelerate because 10% is not ideal in my opinion.  Just a couple of months ago, the company was trading at my fair price target. Unfortunately, I missed it. However, with so much uncertainty and volatility going on right now, I expect we will see it once again over the next couple of quarters. I have a price alert set up again and will revisit DGII to see if anything changed. Until then, I will continue to be on the fence and observe from afar.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.1","shortVersion":"4.29.1","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2465130566"}