2023-03-29 09:45:26 ET
Summary
- RCM Technologies has enjoyed rapid growth the past two years yet trades at a P/E ratio of 6.
- The company had a history of low growth and weak profit margins in the 2010s until a surge in revenue in 2021 and 2022 partly Covid related.
- Covid revenues are now mostly gone but the company remains much more profitable on significantly higher revenues than before the pandemic.
- The company is very aggressively buying back stock.
Over the past year, I have been writing less about individual companies and more about the economy. This is because I have expected a recession and have pulled back in my stock investments. However, there are still companies worth buying even if you expect a weak economy.
While they are hard to find, I particularly like companies that have struggled or had below average performance over a long period of time and then suddenly improved dramatically. These are companies the market has given up on. It often takes a while before investors recognize the improvement. Some of these are turnarounds. But they can also be moderately profitable companies where their products and services are suddenly in much greater demand.
Background
RCM Technologies, Inc. ( RCMT ) is small conglomerate based in Pennsauken, New Jersey. Shown below are its segments, all focused on business services. The percentage shown is percent of sales in 2022. Those segments without a number have 1% or less of revenues.
Specialty Healthcare
School Services 40% - nurses, behavioral techs, occupational and physical therapy, speech
Allied & Therapy 5% - recruiting healthcare professionals
Correctional health care staffing
Healthcare Information management
Nursing staffing 11%
Telepractice 1% for special ed students
Engineering
Energy services 9% - engineering and design for utilities
Aerospace services 14% - engineering and technical services primarily for military use
Process and industrial
Life Sciences
Life sciences validation and compliance 6% - staffing, solution planning and remediation
IT Staffing 8% - software development, managed IT and infrastructure services
RCMT claims to be the largest provider of nurse staffing to schools.
Stock history
RCMT stock traded between $3 and $5 for a decade until 2020 when it dropped under $2 due to losses caused by the pandemic. It then rocketed to a high of $28.82 in June 2022 as Covid services revenues and profits kicked in. It has drifted back down to a current $11.19 as shown in the chart below. The recent selling has the feel of capitulation as those who bought in the $20s are moving on.
Financials
Financial results for the last 5 years are shown below.
The years 2018 and 2019 were typical of the pre-pandemic years which had little revenue growth and low profit margins of 1.0-3.5%. In 2020, operating results were significantly reduced by the pandemic and a slowdown in aerospace (engineering). Things rebounded strongly then advanced to new highs in 2021 and 2022 in part due to a surge in Covid staffing and services. The peak quarter for Covid revenues was the first quarter of 2022.
The market appears to expect revenues and earnings to revert to pre-pandemic levels. However, the company is enjoying at least mid-teens revenue growth outside of Covid services. The fourth quarter of 2022 is actually representative of the new run rate as it had little in Covid revenues. Revenues totaled $70.2 million and EPS was $0.48. This indicates the company is close to full year 2022 earnings despite losing most of the Covid revenues. It should be noted that the current quarter is usually a seasonally slower one so the run rate is not quite $2.00 like in 2022.
Going Forward
The one analyst who has an estimate has 2023 earnings at $1.86. Management in the last conference call guided for lower earnings in the first quarter of 2023 due to tough comparisons (Covid) and seasonality. They expect things to build during the year based on a strong pipeline resulting in a strong second half of 2023. Management expects EBITDA of about $30 million in 2024, slightly above 2022 when they earned $2.00 per share. Management believes that revenue growth excluding Covid services is and can be maintained for the foreseeable future in the mid-teens. If they can do $30 million in EBITDA in 2024, the EV to EBITDA ratio would be an extremely low 3.7 based on the current market price.
Catalysts and Strengths
The company has a number of catalysts and strengths going forward as discussed below.
1. Behavioral health in schools – This is my biggest reason for owning this stock as I believe it is a strong secular growth area due to the mental impact of Covid, all the school shootings, and a higher awareness of this need. This business brought in $35 million in revenues in 2022 and continues to grow rapidly. At the end of 2019, they had less than 30 school customers and only 3 were over $300,000 a year. Today, there are over 60 school customers and over 15 that are over $300,000 a year. They expect this growth to continue and could grow 10x. RCMT believes the school behavioral market is mostly untapped.
2. Other growth areas – These include their telepractice segment which is also for students, in this case Special Education students. They expect significant growth in Life Sciences and implementing new software for healthcare practices. There are significantly increased opportunities with power grids. In late 2022 they entered the Puerto Rican power grid market where billions of dollars will be spent over the next few years. They already expect $3-4 million in sales in 2023 and much more in future years. The company gets a lot of revenues from nurse staffing which is a growth area due to a shortage of nurses. The aerospace division has almost doubled in size and capacity since mid-2021. Much of that is for military spending.
3. Stock buybacks – Stock buybacks are the primary capital priority right now and they are much more aggressive than most companies. Other capital uses such as M&A and reducing debt are secondary. They do not currently pay a dividend. On December 31, 2022, shares outstanding were 9.2 million, down 10% from 10.3 million one year earlier. Of these 753,055 were purchased in the fourth quarter at an average price of $14.83. As of March 15, 2023, the company had repurchased another 437,486 shares at an average price of $13.38. On that date, the Company had $4.4 million authorized for future treasury stock purchases. With the current stock price currently $ 11.19 and a solid balance sheet, I expect significant additional stock repurchases and a new buyback board authorization.
4. Balance sheet – The balance sheet is strong enough to continue large stock repurchases. As of December 31, 2022, tangible net worth was $27.3 million. Interest bearing debt totaled $8.8 million, all on a line of credit. Working capital was $18.6 million. Capex is low so most profits can be returned to shareholders.
5. High insider ownership - CEO Brad Vizi and CFO Kevin Miller are 2 of the 3 largest shareholders. As of October 28, 2022 CEO Vizi owned 13.4% of the stock and CFO Miller owned 5.9%. CEO Vizi’s holdings have since increased to about 20%. Insiders as a whole owned 23.6% on October 28, 2022 and closer to 30% now.
Concerns
1. Conglomerate discount – RCMT is essentially a conglomerate with 3 distinct businesses. Management believes the current structure suits them well due to synergies with management, cross selling opportunities, more scale, and diversification. However, most conglomerates get a discount from the market these days. I look at it a little differently. RCMT has become primarily a healthcare services company with 56% of revenues from that source up from 40% three years ago and increasing.
2. Recession risk – Most companies face increased headwinds in a recession. RCMT is less susceptible to recession than average, especially in nursing, school healthcare, and aerospace engineering. The IT business is the most susceptible.
3. Line of credit – The line matures in August of this year. Management does not expect difficulty renewing.
4. Customer concentrations – The largest customer was 13.2% of revenues in 2022 with the next at 12.7%. The top 5 were 43% and the top 20 67%.
Valuation
While RCMT is a conglomerate, healthcare services have increased from 40% to 56% of revenues in the past 3 years. I expect this trend to continue and for the company to start being valued more as a healthcare services company.
I usually try to value companies based on a peer comparison. The problem here is there are no close peers to RCMT, even if you assume it is a healthcare services company. I found 4 somewhat similar comparables listed below.
All of the comps have a much higher price to sales versus RCMT. HealthStream ( HSTM ) is the closest comparable as it is similar in size and provides services to health care facilities though doesn’t mention schools. It is a slower grower than RCMT with a lower profit margin. Performant ( PFMT ) provides auditing services to healthcare companies and is currently in a business transition and losing money. But it still trades at over 2X revenues. Acadia ( ACHC ) provides behavioral health facilities. It is a steady grower with a superior profit margin.
I believe RCMT is superior to Performant, similar to HSTM and inferior to ACHC. RCMT must also be discounted as it is much smaller and less liquid than ACHC and is a conglomerate which the others are not.
Also, RCMT does a lot of healthcare staffing at 40-45% of revenues, primarily in schools. Healthcare staffing companies such as Cross Country ( CCRN ) and AMN ( AMN ) are trading at P/E ratios below 8 currently as like RCMT their profits surged from Covid. Those companies are more generalists than RCMT with its schools niche.
RCMT is a hybrid with the majority in industries having a P/E ratio over 20 and the remainder in an industry with a low P/E ratio currently. Based on this, once RCMT can prove to the market it can retain most or all of its 2022 sales and profits, I believe it will trade at a P/E ratio of at least 12. Based on 2022 earnings of $2.00, my one year price target for RCMT is $24.00. That is slightly more than double the current $11.19 stock price.
Takeaway
RCMT has solid underlying growth masked by a surge in Covid revenues in 2021 and 2022. Earnings in 2023 may drop off somewhat with most of the Covid revenues now gone. However, the most recent quarter indicates they should come close to maintaining revenues in 2023 before resuming growth in 2024. They are likely to be less impacted than the average company in a recession. Meanwhile buybacks should be quite accretive in 2023. I recommend a long position in RCM Technologies.
For further details see:
RCM Technologies: A Covid Surge Masked Rapid Underlying Growth