Enghouse Systems (ENGH.CA) is an enterprise software company that acquires and manages software for several vertical markets. It separates its operations into two business units: Interactive Management Group (IMG) and Asset Management Group (AMG), writes Ryan Irvine, founder of KeyStone Financial.

IMG focuses on communication software and services for contact centers. AMG provides software and services for the management of complex network infrastructure in the telecommunications, utilities, transportation, and oil & gas sectors.

Enghouse has completed 51 acquisitions since 2002, which have helped to expand the company’s revenue more than 31x from $14 million in FY 2002 to $454 million in FY 2023. But 2020 through 2022 was a difficult time for Enghouse to execute on its growth-by-acquisition strategy.

The enterprise software market which the company acquires within had been bid up to historic multiples. Enghouse, which is very disciplined in its fundamental approach to acquisitions, was unable to find value in its traditional pool of candidate companies. As such, growth declined.

Broadly, the environment began to shift in 2022 as turbulent global markets, rising interest rates, and high inflation led to a decline in valuations among the company’s target acquisition candidates. Moving into 2024, the environment now favors Enghouse’s capital compounding acquisition strategy.

With net cash near all-time highs at $226 million ($4.09/share) and solid free cash flow expected in 2024, the company has the financial strength to execute. We estimate capital deployed at a >20% IRR on acquisitions could ramp from the $56 million in FY 2023 to in excess of $115 million annually by FY 2025.

From a valuation perspective, Enghouse trades at a significant discount to both its peers and its own historical multiples. On a NTM P/E basis, Enghouse is trading at 15.1x, below Canadian consolidator peers at 33.2x. Enghouse’s discount to peers is 55%, whereas Enghouse has averaged 13% below peers over the last five years.

Enghouse’s discount to peers reflects its lack of recent acquisitions, negative organic growth, and smaller size. While the organic growth remains an issue, it appears poised to lessen and the acquisition environment has improved.

The company has averaged 14.4x NTM EV/ EBITDA and 27.7x NTM P/E over the last five years. Enghouse’s current NTM EV/EBITDA valuation is 21% below this range and current NTM P/E valuation is 46% below this range.

Our current fair value on Enghouse is $44 based on 14x FY 24e EV/EBITDA and ~25x (adding back net cash) FY 2024 EPS estimate.

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