Atea: Now With Small Upside (Rating Upgrade) (OTCMKTS:ATAZF)

Dear readers/followers,

Years ago, I actually held significant positions in Atea (OTCPK:ATAZF) across my portfolios. The company offers an appealing, non-trivial yield and an upside for the IT markets in the home nation where I live, the area of Scandinavia. The company’s annual sales exceed 45B NOK, with a current EBIT margin of between 3-4%. It has a 1.03x net debt/EBITDA and interest coverage of almost 8x, indicating solid fundamentals, and these fundamentals have not particularly worsened in the last 6 months since I wrote about the company last time.

However, I downgraded my outlook on the company not that long ago (June this year), and I am not moving to any sort of positive rating here as I am updating the thesis.

Atea has been a volatile stock. Since I wrote about it, it has gone down, then up, then down again, and we’re now currently at about 130 NOK for the native Oslo ticker. This is not a terrible price – but nor is it a good one. The time to really “go into” Atea is, as I see it, when that share price goes down to the double digits, which it certainly at times has the potential to do.

In terms of potential and pricing, let’s see what we have for Atea here as we review the 3Q23.

Atea – Going into 2024 and what we can expect from this IT business

3Q23, which is the last set of results we have to go by, was pretty good. We saw an increase not only in top-line gross sales by Atea, but in terms of EBIT, in terms of gross profit, and net debt reduction as well. All of these developments are welcome, and go contrary to the share price development since November of this year.

A word or two about the mix here. The company is seeing a decline in hardware-related sales with software and services seeing continued growth and margin recovery, which resulted in the aforementioned and clearly improved gross profit. The company manages almost 30% gross margins again, after dropping to 25% last year.

In terms of business unit performance – and remember, what Atea does is structure geographically, we’re seeing revenue declines from strong comps, but higher gross margins in all countries. The company is also seeing high EBIT growth in all nations except Denmark – this part of the company’s business continues to be a “problem” here.

The fundamentals for Atea here are solid. The company has a net debt/EBITDA of less than 0.2x, which makes Atea one of the most conservative businesses I review in this sector, and as I see it, materially more attractive than many others. The company’s total net debt here is less than 175M NOK, which means that it’s less than half of the company’s single-quarter operating profit.

Atea, like any hardware and software IT sales business, is a play on the spending gaps of public and private companies. Much of this company’s sales go to the public sector, and while GDP is dipping in parts of Scandinavia, the spending for systems and IT, both hardware and software, is expected to hold up relatively well, with a growth of 5%, meaning it’s well above the GDP growth of the area.

The company’s own expression here for the next few years is “steady as she goes.” If you know and follow my work, you can expect that I like this quite a bit.

I follow this segment in IT quite a bit for a simple reason. By day, I’m an organizational and management consultant for public institutions, and much of my work is either peripheral to, or closely linked to the procurement processes in many areas, including IT. I see a continued solid underlying demand for both hardware and software because municipal organizations have not been upgrading systems or hardware as they should have done for the past decade and more. With SCM constraints now lifted, more procurements are going out, and Atea will be the beneficiary of these – or one of them. There’s a high municipal, regional, and national interest in investing in local infrastructure and Data Center Computing and Networking – especially in the northern parts of Scandinavia, where cheaper power prices and HVAC solutions due to the climate are far easier.

The software market, meanwhile, is driven by similar robust demand trends, and higher listing prices of software, which I myself have noticed (demanding bigger budgets). I don’t meet as many “sales” people as I did years ago, as the role of the salesman has come to be more digital, and the concept of selling licenses has moved to sell subscriptions in the public sector as well. Atea has key growth opportunities here, in things like cloud migration and the optimization of a hybrid and partially home-based work environment.

The company YTD results confirm the positive picture that I am presenting you with here. We have double-digit improvements not only in YTD gross sales YoY, but in EBIT, in revenue, and significant operating cash flow improvement for this year as well. It’s all positive here, as they say.

The risks that I saw with Atea some years ago, primarily related to the company’s breaking of certain laws in Denmark and other areas are now mostly solved. The company’s management as things stand now, seems to be more interested in keeping in the “right lane”, which is something I obviously approve of.

With a reverted margin and overall very solid RoE, this company on a trajectory for impressive future results. Its operating margin is now in a clear expansionary trend, its dividend yield is at a 3-year-high level, and the company has very strong fundamental scores. You can look at an Altman Z-score estimate, or other similar fundamental models, and find Atea scoring very well.

The company also has 10 consecutive years of profitability behind it, proving clearly that it’s not a company that’s going “the wrong” way here.

There are a few drawbacks to Atea at this time. if you accept the company’s long-term premium, the company could even be a solid “BUY” Here, but I take a somewhat more conservative stance since the company has not achieved any sort of notable solid long-term premium since before 2019 – and I don’t consider the 2020-2021 period to count here.

Let me show you what I mean.

Risks & Upside with Atea

The risks to Atea were once operational, specifically, the company’s tendency to skirt rules and regulations. Thankfully, I do not believe this to be the case any longer. Instead, what risks we do have here are more macro-related. The biggest risk to the company that I see would be the fact that the company really does not control much of the products that it sells. Atea’s role in the chain is more that of a reseller of software and hardware it does not own. This, technically, opens it up to competition if another player were to make a market move – but viewing it so simplistically also takes away from the fact that Atea has decades of customer relationships and procurement experience under its belt.

Also, Scandinavia isn’t a large enough market for where new electronics or software players make easy entries. Atea’s market position is relatively solid here, and I don’t see this risk, despite lifting it, as being all that significant.

The upside to Atea is continued growth from the IT spending gap. I see this as relatively clear, and well-established, which means the only problem is what you would be spending to “get” the growth here.

Let’s look at what the valuation is today, and what I believe you should pay to get your “piece” of Atea here.

Valuation for Atea

In my last article, I went “HOLD” on this company. I believe this was the right choice to make, and the company has been more or less stable since that particular article. There have been opportunities to add to Atea, but none of them have seen the company clearly at double digits. Then again, given the current growth rate and the valuation, there is a case to be made here why the company could be a “BUY”.

I told you last article, I would buy below 130 NOK. That’s the highest time I would buy Atea, and we have that valuation today. There’s a whole slew of upsides if you buy below that, but if you buy the company at 129.60 NOK, you get an upside of around 13.85% to a normalized P/E of 15x even with a double-digit EPS growth rate of 13.5%

And you know this is rather risky because the company actually misses estimates negatively over 66% of the time on a 10-year basis with a 10-20% margin of error (Source: FactSet).

So, you can see that while 130 NOK produces potential good returns, why I might want to invest lower than that. At under 120 NOK, that upside is over 17.5% per year, and once we hit below 110, we’re at well above 20% per year in upside, with a yield well over 5%

The yield at this time isn’t bad, per se – it’s close to 4.85%. But there are plenty of companies with safer and more reliable upsides, and above all, with better moats than a reseller of software and hardware, no matter how qualitative their operations have become over the last few years. And I do mean that I see significant improvement over the past few years, which obviously makes me much more interested in investing here.

Atea has an appealing set of analyst targets. The analysts following the company, all 4 of them, go from a 140 NOK to a 180 NOK share price range with an average of 160 NOK. I do not need to tell you that I view this as too exuberant – you know this from my discussions earlier in this segment. Granted, they’re consistent in their stance and recommendations, but most of them are at “BUY”.

But I still believe that while the company technically is a buy at 129.6 NOK, and I’m not changing my price target, which means I’m upgrading my rating here, I believe there are far better targets out there at this time.

Still, as an analyst and a contributor, I stick to my targets with high clarity – so I’m upgrading my rating here, and considering Atea a “BUY”, if just barely.

Thesis

• Atea is one of the market-leading IT companies in the Nordics, not in their own software, but in selling other companies’ hardware and software and servicing this. The company’s market share and exposure to multiple geographies and currencies make this an attractive play if you’re interested in higher-yielding IT with Scandinavian organizations as their backbone.
• At the right valuation, this company has the real potential for 50-150% RoR while paying a 5-6% yield, as I have invested in Atea in the past. For the time being, however, it’s coming out of what I view as being somewhat overvalued.
• I rotated most of my shares, and I give Atea a conservative PT based on a relatively low EBIT margin and a volatile history despite a strong forecast and would buy below 130 NOK/share. The company share price is currently 129.6 NOK, and while the company is very close to being a “HOLD” still, I still stick to my targets.
• This makes the company a “BUY” here.

Remember, I’m all about:

1. Buying undervalued – even if that undervaluation is slight, and not mind-numbingly massive – companies at a discount, allowing them to normalize over time and harvesting capital gains and dividends in the meantime.

2. If the company goes well beyond normalization and goes into overvaluation, I harvest gains and rotate my position into other undervalued stocks, repeating #1.

3. If the company doesn’t go into overvaluation, but hovers within a fair value, or goes back down to undervaluation, I buy more as time allows.

4. I reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

Here are my criteria and how the company fulfills them (italicized).

• This company is overall qualitative.
• This company is fundamentally safe/conservative & well-run.
• This company pays a well-covered dividend.
• This company is currently cheap.
• This company has a realistic upside based on earnings growth or multiple expansion/reversion.

This means that the company fulfills all but one of my criteria, making it relatively clear why I view it as a “BUY” here.

Thank you for reading.

This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.