2023-05-14 08:03:23 ET
Summary
- While it's still unwinding the pandemic boom in carrier 4G hotspots, that's now in the last innings and most of their business is growing.
- Gross margin and OpEx both showed significant improvements producing record AEBITDA and even positive free cash flow, although helped by working capital.
- The company will soon be growing again and generating operating leverage, and while financials have significantly improved, due to low cash and high debt, it's not yet home and dry.
Inseego ( INSG ) boom-bust cycle looks about to turn again. Ideally, the big 4G work-from-home/pandemic wave that took the shares to $20 would be followed by even bigger 5G carrier and FWA waves, with higher gross margins to boot and more SaaS software attached.
But what happened instead is that the 4G wave petered out and the 5G wave wasn't arriving as fast to replace that with the company shifting gears from the carrier market to the enterprise market further causing delays.
However, the enterprise FWA ramp is now clearly emerging and with the Q1/23 quarter there is finally light at the end of the tunnel. Here are the main takeaways.
The FWA/enterprise revenues is booming with growth at 35% y/y in Q1. The company is raking in new customers, who tend to start with small pilots and expand from there. The funnel has never been bigger, Q1 was the first quarter that the company wasn't able to fulfill all orders.
The carrier market is disappointing , management argued last quarter that they are putting less emphasis on this market as certification is expensive and time-consuming, and there is a lot of competition. It showed as overall growth is still negative due to hotspot carrier sales declining. Management could have told us earlier.
The FWA is a much better market than the carrier market , it's 3x the size, there is little competition, it enables higher (40%+) gross margins and it had 100% SaaS software attachment in Q1.
The FWA market is not cyclical . It's an enterprise market, setting up and running an FWA network for distributed company facilities is much simpler, cheaper, and faster than alternatives and demand will continue even in a downturn.
FWA is held up by the availability of mid-band 5G . This has been a drag, but the geographical rollout is spreading and the availability is improving.
Gross margins are structurally improving . While the 36.1% gross margin in Q1 (up 580bp q/q and 810bp y/y) was helped by one-off factors (without which it would have landed in the 33%-34% range), management is guiding gross margins in the mid-30s as the new normal. All the more remarkable as the company's high-margin segment, its Ctrack asset tracking business, is a lot smaller after they sold their South-African business.
Revenues will start growing soon . This is simply the result of the fact that the growing parts of the business are now larger than the shrinking parts. Overall revenue was still down, but the growth areas (FWA + SaaS management suite) are now 53% of revenue, add to that 5G hotspots and it's 68% of revenue, and with Ctrack's (which grew 10% q/q and 5% y/y) $7.2M adds another 14% or 82% of the company is growing. The shrinking part is just 18%, soon it will be too small to have much effect on overall revenue growth.
The company had a strong start to Q2 . Things have continued where Q1 left off and they have a strong backlog of orders to fulfill.
The company shaved $30M+ from OpEx . This sets the company up very well for the future with revenue growth, gross margin expansion, and operating leverage kicking in.
The company reported record AEBITDA ($4.1M) and positive free cash flow ($1.6M, helped by working capital, a $3.7M drawdown of inventories, and a $5.5M increase in accounts payables although there was also a $2.2M increase in receivables q/q).
Risks
There are still considerable risks though:
- Management is still not comfortable providing guidance , these are relatively new markets and quarterly variability could still be an issue.
- The company isn't home and dry yet on cash , even if it added $1.6M in cash in Q1, its cash balance ($8.7M) is still very low and working capital can also turn.
- Debt . The company has $158.8M of outstanding notes which mature at the end of next year. While there are 7 quarters to produce improved financials, bolstering their negotiating position, and the interest rate climate could very well turn before that, there is already talk about extending the maturity.
Conclusion
We are cautiously optimistic. The waves we foresaw replacing the 4G work-from-home pandemic wave are finally starting to arrive, and the drag of the unwinding of that pandemic wave is in the last innings.
It has taken a lot more time than we expected as the company has de-emphasized the carrier market where they had a very promising start, in favor of the FWA enterprise market that was slower to develop.
But ultimately, this is the right decision, as the FWA market is much larger and more attractive in terms of competition, margins, and software attachments generating recurring revenues.
While not home and dry yet (the cash is too low and the debt too high), the business is definitely improving, with big positive steps in gross margins and OpEx and soon revenue growth.
For further details see:
Inseego Q1 Earnings: Turnaround Getting Legs