KRNT - Kornit Digital: Still Facing Headwinds But Return To Growth Likely Next Year - Buy

2023-11-18 06:58:21 ET

Summary

• Leading digital textile printing solutions provider Kornit Digital reported Q3 results in line with management's projection, but Q4 guidance fell short of expectations.
• Kornit is still facing a challenging macroeconomic environment with weak end consumer demand, resulting in customers tightening capex budgets.
• However, the company is making progress in reducing operating expenses and improving gross margins.
• With a return to revenue growth and adjusted EBITDA profitability expected for next year, I am keeping my "Speculative Buy" rating on the shares.

Note:

I have covered Kornit Digital Ltd. (KRNT) previously, so investors should view this as an update to my earlier articles on the company.

Earlier this month, leading digital textile printing solutions provider Kornit Digital Ltd. or "Kornit" reported Q3/2023 results in line with management's projections:

However, fourth quarter guidance came in below expectations stated by management on the company's Q2/2023 conference call in August (emphasis added by author):

Based on our progress to date, we currently expect to report breakeven on adjusted EBITDA basis for the fourth quarter of this year, even at the quarterly revenue run rate in the mid $60 million range due to a favorable sales mix of higher margin consumables, and quarterly OpEx in the low to mid $30 million range.

For Q4, Kornit now targets to " approach " break-even on an adjusted EBITDA basis with profitable growth expected to resume next year, as outlined by management on the conference call (emphasis added by author):

In 2024, we will continue to proactively work with our customers, invest in our product roadmap as planned, and improve our operating model.

We are therefore planning to deliver profitable growth for the full year 2024 on an adjusted EBITDA basis . To clarify, our 2024 plan considers the typical seasonality inherent in our business model, which implies that revenue and adjusted EBITDA margin will be stronger in the second half of 2024 as compared to the first half of 2024.

While the company's operations in Israel have not been affected by recent events, Kornit is still facing a challenging macroeconomic environment with high interest rates impacting financing options for the company's digital textile printing system solutions and weak end consumer demand resulting in customers tightening capex budgets.

However, the combination of reduced lower-margin system deployments and increased higher-margin consumables sales has resulted in gross margins recovering to a new one-year high:

Management continues to expect gross margin improvement for the balance of the year as Q4 usually represents the high watermark for consumables sales.

In addition, Kornit is making progress in its efforts to right-size the organization in light of the current operating environment:

As a result, non-GAAP operating expenses of $31.1 million declined to new multi-year lows.

The company recorded negative free cash flow of $8.7 million for the quarter partially due to higher accounts receivable balances as recently acquired customers are provided extended payment terms.

That said, Kornit still commands $568.6 million in cash, bank deposits and liquid investments and continues to have no debt.

Year-to-date, the company has bought back approximately 1.6 million shares at an average price of $22.97 under its $75 million share repurchase program.

Going forward, Kornit plans to increase the pace of share buybacks in order to take advantage of the low stock price.

Valuation-wise, the company is currently trading below 6x my 2025 EV/Adjusted EBITDA estimate, well below the corporate average in the machinery sector:

Assigning an EV/EBITDA multiple of 10x would yield a $24 price target for the shares or close to 30% upside from current levels:

Bottom Line

While Kornit Digital continues to deal with headwinds from overall macroeconomic conditions, the company is making progress in reducing operating expenses and improving gross margins.

With a return to revenue growth and adjusted EBITDA profitability expected for next year, I am keeping my " Speculative Buy " rating on the shares.

Risks

Further deterioration in consumer demand trends could result in the company's anticipated 2024 and 2025 performance falling short of expectations again.

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