Talenom: Seeking new solutions to growth challenges

Translation: Original published in Finnish on 10/10/2024 at 7:30 am EEST.

We reiterate our Buy recommendation for Talenom but lower our target price to EUR 5.3 (was EUR 5.6) after a negative profit warning. In connection with the warning, the company announced plans to spin off its software business into a separate company, which in practice means that the company's software will also be sold to third parties. The disadvantage of in-house software has always been the high investment required, and with the slowdown in growth on the service side, it is logical to look for external "payers". Over the next few years, a major strategic shift is expected to take place that will change the dynamics of both the software and service businesses.   

Profit warning was no surprise, even though we thought the company could avoid it

In yesterday's profit warning, Talenom estimated revenue for 2024 at 126-129 MEUR, EBITDA at 34-37 MEUR and EBIT at 11-14 MEUR. Revenue has been affected by "the prolonged economic downturn, especially in Finland", which is a plausible explanation for business services companies in general. Talenom, in particular, is suffering from the poor situation in the construction sector, which the company says is increasing customer churn despite good new sales. The company's cost structure is fixed in the short term, which means that the lower-than-expected revenue is directly reflected in the earnings figures. We now forecast 2024 EBITDA of around 35 MEUR and reported EBIT of around 12.3 MEUR (range 11-14 MEUR). Our forecast includes 0.5 MEUR one-off costs related to the separation of the software business (including change negotiations). 2024 will therefore be a weak year for Talenom, but the core business in Finland is still very profitable. . We have also lowered our EBIT forecast for next year by approximately 10% to reflect more moderate growth expectations. 

Spinning off the software business is logical, but also opens up the competitive situation

Talenom plans to spin off its software business, through which it will start offering its own software to other accounting firms. It's a major change in strategy, but not as dramatic as you might think. We believe this is driven by the growth challenges of the service business and the investment required for competitive software - the desire to share the burden of software development. Talenom's software and services have supported each other, but they have held each other “captive”. The biggest opportunity is related to the software business potential (estimated revenue in Finland 15-20 MEUR), but there are also benefits in supporting the organic growth of the service business. In the coming years, volumes will increase with the Swedish and Spanish deployments, but the share of "outsiders" will gradually increase in the coming years. International software business is certainly not easy. The biggest potential problem is the sharing of the clearest competitive advantage of the service business to competitors.

Valuation picture has not changed much; success in Sweden still key

Talenom's valuation multiples are quite attractive out to 2025 (P/E 20x and EV/EBIT 16x), but this include strong earnings growth. EBIT continues to come solely from Finland next year, which means that the value of the Swedish and Spanish businesses will not be reflected in the earnings multiples. Our sum-of-the-parts calculation now indicates a value of around EUR 5.3 per share (was EUR 5.6), after a decline in Finnish earnings forecasts weighed on its value. The Swedish and Spanish values are now at their assumed book values (below EUR 1.6 per share). If even a moderate part of the Finnish success story could be replicated overseas in the coming years, the stock would be very cheap. We see great potential in the change of strategy, and while there is no evidence of success in the software business yet (confidence will be built from the Q3'24 report), at current valuations we still see this as a positive option for investors.