2023-03-05 11:00:49 ET
Summary
- CPI Card Group has been one of the top performing stocks over the past year, with 150%+ upward run.
- The fundamentals of increased contactless card use and shifting preferences towards eco-friendly cards remain long-term growth drivers.
- Valuation is currently ~7x forward EBITDA, which seems to have already priced in strong growth and margins.
CPI Card Group (PMTS) will report Q4 earnings and 2023 guidance on March 8, and I believe the company could provide upside to consensus estimates given the strong underlying trends seen across the payment ecosystem. The company guided to low-20s net sales growth in 2022 and with year-to-date growth of 24% through the first three quarters, this does imply deceleration into Q4. However, the company has done a good job in recent quarters beating guidance, and I believe this trend will continue.
However, I currently remain on the sidelines given the stock's strong run over the past year and valuation currently ~7x forward EBITDA. Even when extrapolating estimates out to 2024, it becomes a little more challenging to invest at these levels, unless investors underwrite multiple expansion. And while this is possible, I believe the combination of 10%+ revenue growth and margin expansion is already baked into the stock's price.
CPI Card Group manufactures credit, debit, and prepaid cards for financial institutions. The global pandemic in 2020 caused many consumers to utilize more contactless payment methods, which has accelerated the adoption of CPI Card Group's solutions. This trend clearly benefitted the stock, which traded around $0.70 at a low point in 2020 and currently sits at over $33.
While I do believe the company's financials remain solid, I believe the current valuation of 7x forward EBITDA already prices this in. For now, I remain on the sidelines and given the strong performance of over 150% in the past year, I prefer to wait for a pullback before becoming more constructive.
Financial Review
2022 has been a successful year in many ways for CPI Card Group as the company has benefitted from many positive underlying trends in the payments business. Prior to the 2020 global pandemic, the company was a penny stock that was struggling with leverage and profitability. However, the pandemic rapidly accelerated the use of online payments and card-based payments, as consumers started to view cash as "dirty" and quickly changed their preferences. In addition, as the younger generations start to play a more prominent role in the economy, their preference for card and digital payments should serve as a bullish trend.
So far this year, net sales have grown 24% yoy, which is being driven by an increase in contactless cards as well as eco-focused cards. Environmental, Social, and Governance concerns have risen in popularity in recent years, and we have seen many card production companies begin to offer eco-friendly solutions. While this may not become the prominent driver of new card issuance, this does offer another growth opportunity for the company.
Gross margin has been pressured a bit this year due to higher production costs. While inflationary costs have impacted gross margins, CPI Card Group continues to benefit from both natural operating leverage and some price increases.
Nonetheless, adjusted EBITDA margin this year is 20.2%, which is down from the 22.3% in the year-ago period. Over the longer-term, I believe the company has several levers to improve margins, and as these high inflationary pressures begin to ease, the company should naturally see their margins expand.
CPI Card Group
One area that continues to concern me is the company's balance sheet and FCF. Over the past several years, the company's net debt level has remained around $300 million, which has caused their net leverage to slowly come down as adjusted EBITDA grows. However, the lack of debt repayments and adjusted EBITDA stalling puts some pressure on net leverage. Management talked about their capital allocation priorities on the Q3 earnings call.
Our capital structure and allocation priorities remain focused on maintaining ample liquidity, investing in the business, including possible strategic acquisitions, deleveraging the balance sheet and potentially returning funds to stockholders. Consistent with these priorities, we continue to target further lowering our net leverage ratio over time.
Currently, net leverage is 3.6x LTM adjusted EBITDA, which is down only slightly from the 3.8x net leverage at the end of last year. As concerns around a potential recession remain a sentiment headwind, investors could start to focus more on FCF and balance sheets in the event of a macro downturn.
Q3 FCF was $13.6 million, which was up quite a bit from the $9.4 million loss in the year-ago period. However, year-to-date FCF loss is $2.7 million, which is well below the $9.7 million positive FCF in the year-ago period. While year-to-date adjusted EBITDA of $70.5 million has grown from the $62.9 million in the year-ago period, their FCF is lower because of the increase in capital expenditures so far this year. The company has invested $14 million in inventory to help support increased demand and has seen a $15 million impact from higher accounts receivable, which both are weighing on FCF.
CPI Card Group
For the full-year, the company is expecting net sales growth in the low-20%, which compares to the 24% growth seen so far this year. This implies a deceleration in growth for Q4, with consensus currently estimating 11% yoy growth (per Yahoo Finance). Adjusted EBITDA margin is expected to be slightly below 20%, which also implies some margin compression heading into year-end.
The company will report Q4 earnings on March 8 and will provide 2023 guidance. Currently, consensus is estimates 10% revenue growth with EPS of $2.71.
Valuation
Although the stock is down over 10% so far in 2023, it's important for investors to look at the multi-year performance. Over the past year, the stock is still up over 150% and with the stock currently over $33, this stock has been a 50x bagger since reaching a low point in 2020.
Over the past several years, the company has done a great job improving their profitability, with the global pandemic proving to be a strong tailwind for both growth and improving margins. On top of this, while the company's net debt level has remained pretty stable, their growing adjusted EBITDA has helped lower net leverage.
The stock currently trades ~7x forward EBITDA, which is around the high-end of the company's recent valuation history.
CPI Card Group has a market cap of $380 million and with net debt ~$300 million, the company's enterprise value is ~$680 million.
As noted above, consensus currently expects 2023 revenue of $498 million and if we assume adjusted EBITDA margin expands to 20% (relative to the 2022 guidance of slightly below 20%), then we could see adjusted EBITDA of ~$100 million. If we look ahead to 2024 and assume a similar 10% revenue growth and adjusted EBITDA margin expanding to low-20s, then this could yield a 2024 adjusted EBITDA of ~$120 million, which results in a 2024 adjusted EBITDA multiple of ~5.7x.
While I believe the company is benefitting from strong growth trends across card issuance, EMV/contactless payments, and a shifting preference for eco-friendly products, I believe the company's combination of negative year-to-date FCF and high net leverage could place a limit to valuation. For now, I remain on the sidelines and prefer to see how 2023 guidance plays out with earnings coming up on March 8.
For further details see:
CPI Card Group: Solid Fundamentals, But High Valuation