DAKT - Daktronics: Fast Growth But The Order Backlog Is Drying Up

2024-01-02 22:29:04 ET

Summary

• The company’s revenues and net income have been growing rapidly since FY22 and the forecasts for global LED video display market are bright.
• However, a lot of the projected growth of the global LED video display market is expected to come from the APAC region.
• The order inflow of the company was flat once again in Q2 FY24 and I think that annual revenues could fall to around $600 million in the coming years.
• A lot of the bad news seems priced in already, and short selling seems dangerous due to the significant size of short positions.

Introduction

About two weeks ago, a fellow SA analyst suggested that I should take a look at Daktronics ( DAKT ). The company looks cheap at first glance as its revenues grew by just over 20% in H1 FY24 to $431.9 million while operating income came in at $59.7 million. There is also a decent moat here as Daktronics is a leading player in the electronic display market. In addition, the orders and demand outlook looks strong according to management. However, I’m concerned that the order backlog is shrinking and I think that annual revenues could fall to around $600 million in the coming years. In my view, Daktronics likely benefitted from a post-COVID surge in orders that is now exhausted and my rating on the stock is neutral. Let’s review.

Overview of the business and financials

Daktronics was founded in 1968 and it claims to be the world’s largest supplier of large-screen video displays, electronic scoreboards, LED text and graphics displays, and related control systems (see slide 8 here ). The company has sales in over 120 countries worldwide and you can find its products at stadiums and airports, in malls, on public transport etc. In addition, Daktronics provides supporting software and controllers.

Perhaps the highest profile project of the company at the moment is the Halo Dome at the $2 billion Intuit Dome of NBA team LA Clippers. It’s the largest ever double-sided halo display in an arena setting.

According to the latest corporate presentation of Daktronics, the global LED video display is expected to grow rapidly over the next few years and the total addressable market in North America alone is worth $1.2 billion at the moment (see slide 11 here ). As you can see from the charts below, the market share of the company on the continent is close to 50%, which should give it a good moat thanks to economies of scale.

Considering that Daktronics operates in an industry with thin margins and low barriers to entry, size is crucial. As you can see from the chart below, the company’s operating income margin is typically below 3% and it stayed below this level even in the record-breaking FY23.

Daktronics had been struggling to grow sales for most of the past decade, but its revenues started growing rapidly in FY22. The main reason behind the recent growth seems to be pent-up demand following the end of COVID-19 restrictions considering live events accounted for almost 40% of FY23 net sales.

And it seems that FY24 is set to be an even better year for Daktronics as net sales for the first half of the fiscal year rose by 20.2% to $431.9 million . In addition, operating income has entered positive territory once again as the company kept SG&A expenses contained. As there doesn’t appear to be notable seasonality in the business, I expect operating income to surpass $100 million for FY24.

In addition, I think that Daktronics has a solid balance sheet as net cash stood at $8.2 million on October 28. This is a business with low CAPEX requirements and free cash flow came in at $35.1 million in H1 FY24, allowing the company to increase its cash and cash equivalents to $64.7 million.

Overall, everything seems to be going smoothly for Daktronics, but I’m concerned that this could be as good as it gets as the company is burning through its order backlog. You see, orders for Q2 FY24 inched up by 0.5% to $183.6 million, which is below the net sales level. For H1 FY24, orders went down by 3% year-on-year to $342.3 million, which was almost $90 million below net sales. As a result, the order backlog shrank to $306.9 million on October 2023 compared to $463.1 million a year earlier (see page 22 here ).

While the global LED video display is expanding fast, most of the growth seems to be coming from the APAC region and I’m concerned that Daktronics could be struggling to stay in the black once again in a year or two unless its order inflow improves over the coming quarters.

So, how do you play this? Well, I think it could be best for risk-averse investors to avoid Daktronics stock. Data from Fintel shows that the short borrow fee rate is only 0.41% as of the time of writing and there are about 2.2 million shares available for short selling. However, the short squeeze risk here seems high as the short interest is 7.44% of the float, and it takes over 6 days to cover. In addition, most of the bad news is likely priced in already considering the share price is off by almost a third from the 52-week high and Daktronics shares are currently trading near 2019 levels when TTM EBITDA and net income were much lower.

Investor takeaway

Daktronics improved its revenues and margins significantly in FY23 and H1 FY24, but it seems that the company is losing steam as orders have been flat over the past few quarters despite its addressable market growing rapidly. The order backlog is shrinking fast, and it seems that net sales and net income could follow suit in a few quarters. Considering a lot of the projected growth of the global LED video display market is expected to come from the APAC region, Daktronics could struggle in FY25. That being said, a lot of the bad news seems to be priced in already, as the market valuation of the company has shrunk by over 30% since November. In addition, short-selling could be dangerous here due to the significant size of short positions. In my view, risk-averse investors should avoid Daktronics stock.

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