Endace: Despite Tough Market, Aggressive Expansion Still On The Agenda

While continued tough market conditions prompt us to bring our previously top-of-the-range numbers back, Endace (EDA.L) continues to lay a platform for more aggressive expansion. The benefits of this investment should start to come through in H2 and beyond. The market may wait for more tangible growth indicators, but we feel the company remains well placed and the rating is now undemanding given the potential.

Progressing in a tough market
Echoing statements from its IT networking peers, Endace’s AGM statement flagged that market conditions remain sluggish and that sales cycles remain protracted. We understand that the company has several ongoing proof-of-concept trials, which could translate into significant contracts in H2 (or beyond) and renewal rates are said to have remained strong. Dealflow in September could still swing H1 sales by a few million, but we believe current trading points to flattish year-on-year sales on a robust H1 last year. Stronger performance is expected in H2 as the pipeline converts and investments in channels, sales and marketing translate into revenues.

Laying the foundations for growth in the enterprise
Operationally, the company continues to lay the foundations to drive an acceleration in future growth through focusing on the enterprise data centre market. The US presence has been boosted through recruiting for key roles from the likes of Juniper Networks and Fortinet and internally. Establishing channel partner relationships with three US national infrastructure resellers (and O2 in Australia) will be key to helping scale sales and earnings.

Bringing estimates in line
Given the macro environment and that our estimates had drifted to the top of consensus, we have trimmed our full-year revenue estimates by $1.6m (3%) for FY13. With operational gearing offset by lower opex, adjusted PBT is reduced by $480k (36%) and EPS by 2.5c (35%) (detailed overleaf). If current investments in building the product set, US presence and channel network bear fruit, then more aggressive revenue growth than the 15% we have forecast for 2014 should be on the cards.

Valuation: Still well placed, value undemanding
High levels of investment suppress earnings, so the P/E is high. However, at 1.7x FY13 sales the EV/Sales ratio does not strike us as at all demanding for a business we feel remains a strong play on the migration to 10/40/100Gb networks, and growing regulatory and commercial drivers for enterprises to have visibility over the traffic flowing over them.

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