By Adam Levine
While Super Micro Computer may be delisted soon, another AI data center play, TSS, has just gained entry to the Nasdaq.
The small-cap stock represents a way to invest in Dell Technologies' thriving data center business without getting bogged down in its stagnant PC segment. But TSS comes with risks.
TSS is a systems integrator, which means it procures and configures equipment for data centers. It has an especially close relationship with Dell, based less than five miles away in Round Rock, Texas. Customers visit Dell for servers, and then head on down the road to TSS for help incorporating the products in their data centers.
The ties go well beyond physical proximity. Dell represented 96% of TSS's revenue in 2023.
TSS provides valuable middleman services to Dell's data center customers in the U.S. It is downwind of Dell's fast-growing server segment, where revenue rose by 38% in the last quarter. Dell's other segment, its well-known PC business, contracted by 4% during the same period.
News of its Nasdaq listing has accelerated a rally in TSS stock. Shares jumped 22% Wednesday after the company announced that it would be "uplisted" from over-the-counter trading to the Nasdaq Capital Market. Some investors may now be speculating that it will eventually be included in the Russell 2000 index.
Shares were down 5% on Thursday, with the company scheduled to report earnings after the close of markets. TSS has no analyst coverage on Wall Street, so there are no forecasts of results.
Like Dell, TSS has become a hot AI play. The flood of new business and the Nasdaq listing have taken TSS from a share price of $0.27 at the end of last year to a recent $11.20.
It's also pricey. TSS now trades for five times sales for its last four quarters. Dell is valued at just over one times sales, so investors are already paying a valuation premium for TSS's relationship with Dell's data center segment.
There are also big risks that investors must consider, starting with the extreme concentration risk Dell represents. If Dell were to pull its business, the stock could lose most of its value. In fact, before new management took over two years ago, there were cracks in the relationship that needed mending.
In securities filings, TSS warns that should it lose Dell's business "our revenues would decline significantly, which would have a material adverse effect on our financial condition and the results of our operations."
Dell didn't respond to a request for comment about its relationships with TSS.
Dell has all the leverage in the relationship, and uses it, weighing TSS down with large receivables that only partially flow into net sales. TSS has to carefully manage its cash flow, so it sells part of its considerable receivables to a financial institution that, in the end, gets Dell's payment.
In 2023 TSS sold $137 million of its receivables, and paid $2 million in interest to the financial institution. As a reflection of how much of TSS's gross revenue doesn't pass through to net sales, it only booked $54 million in net sales, up 78% from 2022. TSS uses these receivables sales like other small-caps use a revolving debt account -- it smooths over lumpy cash flow. TSS says that it pays an interest rate of about 6%, lower than it would on a revolving debt line, because it is effectively getting Dell's interest rate, not its own.
But there are also opportunities for TSS. For one, not all of Dell's terms are onerous, and this year Dell contributed to a $1.7 million TSS capital expansion.
TSS is moving to a new location because of its growing power requirements, which will require a much larger capital outlay, and it has more than doubled its head count this year
The worries about Super Micro and its accounting practices may also convince Nvidia that Dell is a more reliable partner, driving more AI business to Dell, and ultimately TSS.
TSS has other potential upside apart from its rapidly growing Dell commerce. If it were able to get a second big customer, it would supercharge growth. But Dell has something to say about that as well.
"To pursue strategic partnerships outside of what we have, our current customer candidly would like that to happen," said TSS CEO Darryll Dewan at the recent LD Micro Main Event Conference. "But not too much, right?"
Write to Adam Levine at adam.levine@barrons.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
November 14, 2024 14:39 ET (19:39 GMT)
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