KARO - Karooooo's Revenue Growth Tapers As South Africa Troubles Weigh

2023-06-12 14:13:38 ET

Summary

• Karooooo Ltd. reported its FQ4 2023 financial results on May 9, 2023.
• The company provides mobility telematics and related solutions to fleet operators worldwide; it also operates a used car trading service in South Africa.
• KARO has produced little revenue growth in its most recent quarter and has significant exposure to South Africa's economic and power system troubles.
• I remain Neutral [Hold] on KARO in the near term.

A Quick Take On Karooooo

Karooooo Ltd. ( KARO ) reported its FQ4 2023 financial results on May 9, 2023, missing revenue and earnings estimates.

The firm provides real-time mobility data solutions to fleet operators worldwide, and it operates a used car trading service in South Africa.

Given the firm’s exposure to South Africa, plateauing topline revenue growth, and the need for continued investment in its Carzuka system for it to reach operating breakeven, I remain Neutral [Hold] for KARO in the near term.

Karooooo Overview

Singapore-based Karooooo was founded to develop a SaaS platform for enterprises seeking to have constant communication and data analytics - telematics - for their vehicles and other assets.

The company also operates a used car trading service in South Africa.

Management is headed by founder and CEO, Isaias Jose Calisto, who was previously a member of Vehicle Tracking Services, a vehicle telematics distributor.

The company's primary offerings include:

• Communications
• Analytics
• Accounting
• Live video streaming
• Workforce management
• Medical and roadside assistance
• Used car trading
• Logistics services

Karooooo’s Market & Competition

According to a 2019 market research report by Allied Market Research, the global market for automotive telematics was an estimated $50.4 billion in 2018 and is forecast to reach nearly $321 billion by 2026.

This represents a forecast CAGR of 26.8% from 2019 to 2026.

The main drivers for this expected growth are advances in solution options for organizations and a strong demand for increased transportation efficiencies.

Also, below is a chart showing the expected growth pattern by segment within the larger vehicle telematics market:

Major competitive or other industry participants include:

• Verizon Connect

• WebFleet

• Trimble

• Masternaut

• Fleet Complete

• Tracker

• Netstar

• MiX Telematics

• CTrack Inseego

KARO’s Recent Financial Trends

• Total revenue by quarter has plateaued in its most recent quarter; Operating income by quarter has trended slightly higher in recent reporting periods:

• Gross profit margin by quarter has varied within a range in recent quarters; Selling, G&A expenses as a percentage of total revenue by quarter have trended higher recently:

• Earnings per share (Diluted) have trended lower sequentially recently:

(All data in the above charts is GAAP)

In the past 12 months, KARO’s stock price has risen 3.64% vs. that of the iShares Expanded Technology-Software ETF’s ( IGV ) rise of 25.94%, as the chart indicates below:

For the balance sheet, the firm ended the quarter with $52.6 million in cash and equivalents and $3.3 million in total debt, of which $1.2 million was categorized as the current portion due within 12 months.

Over the trailing twelve months, free cash flow was an impressive $61.3 million, with no capital expenditures. The company paid no stock-based compensation in the last four quarters.

Valuation And Other Metrics For Karooooo

Below is a table of relevant capitalization and valuation figures for the company:

(Source - Seeking Alpha)

Below is an estimated DCF (Discounted Cash Flow) analysis of the firm’s projected growth and earnings:

Assuming generous DCF parameters, the firm’s shares would be valued at approximately $25.71 versus the current price of $23.50, indicating they are potentially currently slightly undervalued, with the given earnings, growth, and discount rate assumptions of the DCF.

The Rule of 40 is a software industry rule of thumb that says that as long as the combined revenue growth rate and EBITDA percentage rate equal or exceed 40%, the firm is on an acceptable growth/EBITDA trajectory.

KARO’s most recent Rule of 40 calculation was 68.2% as of FQ4 2023’s results, so the firm has performed very well in this regard, per the table below:

(Source - Seeking Alpha)

Commentary On Karooooo

In its last earnings call (Source - Seeking Alpha), covering FQ4 2023’s results, management highlighted the 19% growth in the number of commercial customers using its platform.

Firms are seeking to digitize their businesses to drive increased efficiencies, adding to demand for Karooooo’s service offerings.

While its Cartrack product generates the majority of revenues, management continues to invest in its Carzuka used car trading system, seeking to grow it further in order to get it to breakeven.

Its third segment, Karooooo Logistics, generates a small amount of operating profit as the company seeks to integrate it into its Cartrack system.

Management did not disclose any company or revenue retention rate metrics; it only said that its ‘customer churn remains low,’ without providing any further details.

Total revenue for FQ4 2023 rose only 3.5% year-over-year, and gross profit margin increased by 2.5 percentage points.

Selling, G&A expenses as a percentage of revenue grew 1.6 percentage points year-over-year, while operating income increased by 21.7% YoY.

The firm announced a dividend of $0.85 per share to shareholders of record as of June 21, 2023, to be paid on July 3, 2023.

Looking ahead to FY 2024, management guided the number of Cartrack subscribers to be 2 million at the midpoint of a wide range due to uncertainties in the general operating environment.

Leadership also expects to allocate more spending to sales and marketing efforts, ‘to drive growth, whereby we expect sales and marketing as a percentage of subscription revenue to increase from the current 13% to be within our long-term target of 17% to 19%.’

The company's financial position is strong, with ample cash, virtually no debt, and impressive free cash flow generation over the trailing twelve months.

KARO’s Rule of 40 performance has been excellent in recent periods.

From management’s most recent earnings call, I prepared a chart showing the frequency of key terms mentioned (or not) in the call, as shown below:

I’m most interested in the frequency of potentially negative terms, so management or analyst questions cited ‘Challeng[es][ing]’ twelve times, ‘Macro’ eight times, ‘Drop’ five times, and ‘Volatil[e][ity]’ once.

The negative terms refer to the varying macroeconomic conditions and the company's exposure to situations such as power outages in South Africa, which have been hampering its financial results.

Regarding valuation, the market is valuing KARO at an EV/Sales multiple of around 3.6x.

The Meritech Capital Index of publicly held SaaS application software companies showed an average forward EV/Revenue multiple of around 7.9x on June 1, 2023, as the chart shows here:

So, by comparison, KARO is currently valued by the market at a discount to the broader Meritech Capital SaaS Index, at least as of June 1, 2023.

Risks to the company’s outlook include an economic slowdown that may be underway, reduced credit availability which may affect customer/prospect spending plans, and lengthening sales cycles which may reduce its revenue growth potential in the near term.

The firm is also exposed to South African Rand [ZAR] currency risk compared to USD due to having significant operations in South Africa. The ZAR has dropped over 15% in the past 12 months, as the chart below from XE indicates.

Given the firm’s exposure to South Africa, plateauing topline revenue growth, and the need for continued investment in its Carzuka system for it to reach operating breakeven, I remain Neutral [Hold] for KARO in the near term.

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