Frontier Developments Plc

Frontier Developments Plc (LON: FDEV) is a UK based FTSE AIM All-Share listed software technology Company. The Company develops video games and non-game applications for the entertainment sector.

In early September 2021, the Company will release its FY2021 results ending 31 May 2021.

Investment Rationale for Valuation – Speculative Buy at GBX 2,835.00

• The Covid-19 pandemic has a created a tailwind for the video gaming industry, with more people are drawn to video games as a major mode of entertainment.
• Additional free and chargeable content, promotions, new platforms and channels and active management of player-community are driving the growth for player numbers for all titles for the Company.
• FDEV has achieved a YoY top-line growth of 15% in H1 FY2021, driven by new platform launches and ongoing solid performance of all existing titles.
• The Company has recently released Elite Dangerous: Odyssey, a new era for Elite Dangerous, which is expected to be a major success.
• On the profitability front, FDEV has consistently achieved a decent performance for the last four years, with net margin always outperforming the industry median of -5.7%.
• On the liquidity front, the Company has maintained a higher current ratio than the industry median of 0.97x since FY2016. Also, it maintained a lower debt/equity ratio than the industry median of 0.28x since FY2016.
• In the last year, the stock has outperformed the benchmark FTSE AIM All-Share index. It could be a positive signal to the shareholders that this trend would continue in future.
• On the technical front, the 200-day EMA (GBX 2,645.00) is lower than the stock price. It reflects a potential uptick in the stock price in the near term.

Key Risks

• Any new disruptive technology and competitive products could put stress on both the top line and bottom line.
• The sector is highly competitive, with success depending on the development of new games.
• There are regulations and restrictions for usage by minors.
• Fluctuations in exchange rates could impact the profitability and financial position of FDEV as it has international operations.

Recent News

On 18 May 2021, the Company confirmed that its new offering, Elite Dangerous: Odyssey, would release on 19 May for Windows PC.

On 6 May 2021, FDEV released Ghostbusters and Studios packs for Planet Coaster. They were released on Xbox and PlayStation platforms.

Financial Highlights (for six months ended 30 November 2020 (H1 FY2021), as of 3 February 2021)

(Source: LSE Website)

• During H1 FY2021, all existing titles achieved strong results, and there were notable contributions from new launches. It resulted in ~15% YoY growth in the top line in H1 FY2021.
• FDEV achieved lower average distribution costs driven by efficient cost-cutting initiatives. It helped achieve higher margins, with gross margin rising ~71% and operating margin being up ~19%.
• Despite this impressive performance, the net cash balance was down by ~23.8% in the previous six months leading to H1 FY2021. It happened due to investments in internal development projects and Frontier Foundry titles, as well as a USD 10 million share repurchase.
• The Company plans to reinvest its earnings into further growth. Hence, it does not offer any dividends to its shareholders.

One Year Share Price Chart

(Source: Refinitiv, Thomson Reuters)

Valuation Methodology: Price/Earnings Approach (NTM) (Illustrative)

Conclusion

During Covid times, the video gaming sector has become a stress buster and higher popular, destined for impressive future growth. All the existing titles of FDEV continue to perform well. With major releases on the horizon, FDEV could further build on its success. It has recently released Elite Dangerous: Odyssey, a new era for Elite Dangerous. It was eagerly awaited and expected to be a major success. The stock made a 52-week low and high of GBX 1,620.00 and GBX 3,470.00, respectively.

On the technical chart, the next important support level is GBX 2,580.00.

Based on the decent profitability, liquidity and leverage profile of the Company, its favourable prospect driven by Covid-19 tailwind, the impressive performance of its existing portfolio, incoming major releases and support from valuation as done using the above method, we have given a “Speculative Buy” recommendation on Frontier Developments Plc at the current market price of GBX 2,835.00 (as on 21 May 2021 at 8.35 AM GMT), with a lower double-digit upside potential based on 41.94x Price/NTM Earnings (approx.) on FY22E earnings per share (approx.).

First Derivatives Plc

First Derivatives Plc (LON: FDP) is listed on the FTSE AIM All-Share index. The Company provides software and consulting services, mainly to clients in finance, technology and energy domains.

Investment Rationale for Valuation – Speculative Buy at GBX 2,230.00

• Driven by high customer retention levels and the strength of the portfolio of customers, FDP delivered a decent performance in FY2021, meeting market expectations.
• There are multiple new contracts in key target markets across the Group and a robust pipeline going into FY2022.
• FDP’s launch of KX Insights for cloud-native streaming analytics generated positive reviews, and the Company is planning major sales campaigns for its further commercialization.
• In general, there is a growing demand for digital acceleration. It could create ample opportunity for the Group.
• On the liquidity front, FDP has a higher current ratio than the industry median of 1.54x since FY2020, indicating sufficient liquidity to meet short-term obligations.
• On the technical front, the 14-day RSI (GBX 19.83) is in the oversold zone. Hence, the stock price could have an upward movement in the near term.

Key Risks

• Increasing incidents of cyber-attacks could pose a significant threat to data security.
• New disruptive technology and a highly competitive technology landscape could impact the revenue, profitability and liquidity of the Company.
• New business in the pipeline could be affected by travel restrictions.
• FDP has international operations. Hence, fluctuations in exchange rates could impact the financials. 

Financial Highlights (for the year ended 28 February 2021 (FY2021), as of 18 May 2021)

(Source: LSE Website)

• During FY2021, the three divisions of FDP, such as KX, First Derivative and MRP, achieved contrasting results. FDP achieved almost a similar top-line YoY of £237.9 million in FY2021, driven by KX division growth by ~4% but mitigated by the flat performance from the First Derivative division and lower sales from the MRP division.
• FDP continues to invest more in sales and marketing to enhance sales capabilities and strengthen its brand awareness among potential customers. Its sales and marketing costs rose 11% YoY in FY2021.
• The flat top line and increased sales and marketing costs resulted in adjusted EBITDA down 11% YoY and adjusted diluted EPS down 24% YoY in FY2021.
• However, FDP’s cash accretive operations and issue of share capital resulted in cash and cash equivalents surging ~111.7% to ~£55.2 million in FY2021.
• The Company would continue to invest in research and development as well as in sales and marketing. Also, there is a reduction in profitability. Hence, the Board decided not to offer a final dividend in FY2021..

One Year Share Price Chart

(Source: Refinitiv, Thomson Reuters)

Valuation Methodology: Price/Earnings Approach (NTM) (Illustrative)

Conclusion

FDP has decent prospects in FinTech with a strengthened pipeline of opportunities. It continued to invest in research and development as well as in sales and marketing on a priority basis, and this would have medium and long term impact on customer retention, new customer acquisition and sales growth. The Board provided guidance for FY2022, which carries an improved momentum across the divisions of FDP. The Company is also confident of the growing demand for KX cloud-native streaming analytics, which it had launched in FY2021. The stock made a 52-week low and high of GBX 2,165.00 and GBX 3,625.00, respectively.

On the technical chart, the next important support level is GBX 1,845.00.

Based on decent growth prospects, new contract wins in key markets, growing pipeline and its better liquidity position than the industry, and support from valuation as done using the above method, we have given a “Speculative Buy” recommendation on First Derivatives Plc at the current market price of GBX 2,230.00 (as on 21 May 2021 at 8.05 AM GMT), with a lower double-digit upside potential based on 55.30x Price/NTM Earnings (approx.) on FY22E earnings per share (approx.). 

*Depending upon the risk tolerance, investors may consider unwinding their positions in a respective stock once the estimated target price is reached or if the price closes below the support level (indicative stop-loss price).

*All forecasted figures and Peer information have been taken from Refinitiv, Thomson Reuters.

*Dividend Yield may vary as per the stock price movement.

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