VTSI - VirTra: Still Set To Double In 2023

2023-04-20 03:49:20 ET

Summary

• The Q4'22 report was extremely bullish for the stock's 2023 prospects.
• There was good news about revenue, margins, and expenses.
• The market still undervalues VTSI, which should be north of $10/share by the end of 2023.

VirTra, Inc. (VTSI) sells state of the art training simulators for police and military use. I profiled the company and predicted 2023 results in my prior article here. Since publication, the Q4 report was extremely positive, and my target price range has gone from $6 - $9 to $9.60 - $14.40 per share.

Let's review some of the positive developments from the company 10-k and Q4 management commentary.

1. Margin Outlook

On the Q4 conference call Richard Baldry of ROTH Capital complimented the quarters gross margins and asked if they are sustainable? Co-CEO Bob Ferris said, "Am I happy with gross margins? No, I'm never happy with gross margins. I think the trend will continue to go up. I would say maybe 10% higher is kind of where I would -- it would be a fair target over the next 18 months". I assumed gross margins of 55% in my prior article, because Bob had targeted margins of 50% - 60%, but 10% improvement on Q4'22 or FY'22 equates to gross margins of 67% - 71%. Though this range will probably not materialize immediately, it looks like margins should be at least 60% in 2023 and even higher in 2024.

2. Backlog Guidance

The company's backlog ended 2022 at $27.7M, up 20% from the end of 2021 despite record annual revenue of $28.3M in 2022. During the Q4 call, Richard Baldry asked management if they'll be able to cut the backlog down over the course of 2023? Bob replied that his goal is to cut backlog to "less than half" of $27.7M. He outlined that after this reduction, backlog should start to grow as STEP deals increase in importance for the company. Bob did not provide a timeline for accomplishing this, but if they make significant progress over the course of FY'23 the company will beat my $35M revenue estimate.

3. STEP Commentary

On the Q4 call VirTra provided the most in depth data ever about their STEP (Subscription Training Equipment and Partnership) offering. In 2022 STEP revenue was $2.9M, representing 10% of revenue and 48% growth over the prior year. This revenue is extremely high margin with retention rates north of 90% at lease expiry. In my $35M revenue model I only assumed $5M of STEP and warranty revenue. In 2022 the company reported $5.8M of STEP and warranty revenue. Since they will likely exceed this amount in 2023, there is at least $1M of cushion on my $35M revenue target.

4. Balance Sheet Factors

VirTra ended the year with $13.5M in cash compared to $19.7M at the end of 2021. This $6.2M cash burn seems concerning at first glance, but upon deeper examination it is an encouraging sign. To begin with, net inventory increased by $4.6M over the course of 2022. I expect this to reverse as the company works through backlog in 2023. Furthermore, the company had an increase to unbilled revenue of $3.5M in 2022. That number will likely descend as invoices go out the door. VirTra's cash drain in 2022 was driven by inventory and unbilled revenue increases that will reverse in 2023. There is no risk of dilution in 2023.

5. Operating Expense Levels

Profitability is critical for growth stock performance. The company clearly stated that gross margins are going to improve in 2023, but what about operating margins? VirTra's operating expenses decreased from $3.6M in Q3'22 to $3.4M in Q4'22. Asked to comment on the trend of absolute spend during the Q4 call co-CEO John Givens stated, "it's going to go down and stay there for several quarters anyways.". As such, my original $16M in operating expense assumption for 2023 looks quite conservative.

Updating the Operating Model

It is appropriate to change the 2023 revenue target from $35M to $36M. Likewise, 2023 margins should be 60% not 55%. Furthermore, it's fair based on trends and guidance to take opex down from $16M to $15M. Assuming the company pays the full corporate tax rate of 21%, this yields net income of $5.2M. With 10.9M shares outstanding VirTra should generate $0.48/share in earnings. If the market applies a 20x - 30x P/E multiple to this micro-cap profitable growth story shares will be worth $9.59 - $14.39 per share.

Conclusion

The Q4 report and conference call was bullish for VirTra. Margins are going to be higher than I previously thought, the company is making aggressive statements about working through backlog, and the STEP offering is proving to be popular. The company is carefully managing expenses. VirTra should generate almost $0.50/share in earnings and trade north of $10 within a year.

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