TECHONE FH26 new top 10 position--challenged in the apocaplyse?

 TECHONE FH26 RESULT

A soft result with FH usually being the less profitable half, plus there were the Showcase costs of $9m and FX headwinds of $1.5 m. Importantly, TNE maintained its full-year guidance and stated that it is on track, which gives the market some confidence. A big second half is implied in my numbers.

Full year guidance is for 18-20% PBT growth and 16-18% ARR growth. Longer term, over $1b ARR is expected by 2030, $600m currently.

Management exuded confidence, stating that the business is seeing strong momentum and is confident in its prospects. AI feedback and adoption are surpassing expectations. They have clear visibility and will deliver the step up. 

TNE maintains its strategy as a specialised software provider in the local government and education sectors, with large investment in R&D and by staying close to its customers, develops successful products. Competition is described as basic and generic.

TNE discounted the loss of seats as a bear case, pointing to student numbers and rateable actions as a basis for the charge to clients. AI was described as an accelerant for both clients and TNEs' own business, with the revenue share as a kicker.

The launch of Plus, the agentic AI product, is still in early stage roll out. TNE describe it as an enormous success and expects to encourage the use of more modules and new clients. “Guide” is for use by students, giving them greater flexibility and advertising is planned on a shared basis; the product is free of charge. The ability to successfully roll out an advertising model will have to be monitored; some have failed in this endeavour. TNE states they will grow it slowly. Generally, TNE see AI as increasing TAM enormously. Customers apparently are seeing large value in the products so far and are happy with functionality into workflows so far.

TNE highlighted that James Cook Uni had left TNE before, has now come back and bought the whole suite, the competitor did not have the functionality that was expected.

NRR was a bit lower due to FX and is expected to pick up to the 115-120% range. NRR plus new logo growth of about 3%pa gives the overall growth rate of 18-23%.

The target 30-day implementation is continuing, with some competitors apparently calling it the Flat Earth Society. Competitors are SAP, Oracle and Workday. TNE's advantage is vertical-specific solutions in local government, education, and government. TNE stated that SaaS+ has impacted margins in the short term, but they see a solid path to 35% margins. They are about 30% now, PBT margins.

TNE stated they are adding staff, there are no large layoffs planned, AI is allowing more ideas and initiatives to be pursued with the capabilities and at a lower cost.

SUMMARY VALUATION

The uncertainty surrounding the outcome of software profitability, which players will participate in, and how much those players will participate or not in the evolving value chain, is the main issue. That is unknown, and the variability around outcomes may be large. That is, identifying the winners, if any, and to what extent is difficult, as the value chain can undergo a significant upheaval.

Having said that, there appears to be some software that is better placed, imo. TNE remains amongst the most resilient. The points I see in their favour are being specialised in their verticals, that they can continue to bring value to their clients and being the workflow infrastructure. The clients are usually not corporations but government and semi-government, which may be the slowest to aggressively adopt replacement technology. That gives TNE time. Another aspect is that TNE is focused on the task at hand. They are moving aggressively and trying things; they are not distracted by large acquisitions, competitors eating share or poor financing. The opposite is the case. In this challenging time, the less management has on its plate, the better, imo. There is enough already.

From a valuation standpoint, the exit multiple is the big delta here. The exit multiple talks to the ability to invest profitably (incremental ROE) beyond the forecast period, five years for me, and the assessment of risk around those income streams in that longer time frame. As the facts evolve, we will be able to tighten up that outcome. The segmentation of the value chain between the software providers, the token providers being the LLMs and any orchestration layer that could develop is still to be determined. There is both a bull case and a bear case.

At 67X trailing PE for FY25, and an 18-20% eps cagr, where the exit multiple sits will determine the stock's returns. At 35X, well below its historic range but still well above the market, we derive a strong buy around the $22-23 range, and I think that is a reasonable entry point. TNE is my main software position in the apocalypse, due to TNE’s positioning and focus. The determination of the value chain is my biggest fear. My total entry cost is below $20 after large additions over the last few months. The portfolio position is adequate given the risks involved; total software exposure should be considered in this regard.