Description

IDEA

Epsilon Net is a Greek software company that dominates the local market for accounting & tax office software and payroll & HRM software. The company also has a strong market share in commercial & ERP software, especially for SME’s. The enormous success of their e-invoicing solution, a product launched only 1 year ago, confirms that Epsilon Net’s business model and market position is making the company a large beneficiary of the digitization of the Greek economy. For a description of EN’s business we refer to Va1ueJunkie’s excellent write-up from last year. The strong sales growth, new product launches and acquisitions make that the company is evolving fast. Despite a strong increase of the share price we believe the risk/reward is still attractive with limited downside risk and 80% upside on conservative assumptions. 

BUSINESS

Epsilon Net has a 75% market share for business software for accounting & tax offices with more than 15,000 installations and an 80% market share with more than 7,500 installations of Payroll and HR Systems for medium and large enterprises with no internal payroll department. The acquisition of Singular Logic gave their ERP business a significant boost with an increase of 35,000 installations to a total of 75,000 as per their latest corporate presentation from July 2021. In ERP, the main competitors are the international players such as SAP and Microsoft with a focus on multinational companies and Entersoft, their main local competitor with a focus on medium to large companies. With 4,000 customers Entersoft is focused on a smaller number of larger customers. 

EN has been investing in modern scalable IT infrastructure and new products for several years to take maximum advantage of the digitization of the Greek economy. The company culture and business model has always been based on servicing a large number of clients. They have a large network of resellers and a call center with more than 1,000 employees to service clients all over Greece. This strategy differentiates EN from its competitors who have been focused on a smaller number of large clients.

Another crucial element is the link EN can provide with the tax authorities and accountants as the majority of tax advisors and accountants use EN software. Users of competing software will have to send documents to their accountants manually.

Management’s claim that EN is uniquely positioned to take advantage of the digital transformation of Greek SME’s is now validated by the success of Epsilon Smart. Epsilon Smart is a web application that offers an e-invoicing solution and communicates with the myDATA platform. myDATA is a platform created by the Greek tax authorities to digitalize the tax and accounting declarations. E-invoicing products are sold as an annual subscription for an average price of €116 per year.  In July 2021 EN claimed 12,000 new customers since the launch of the product in September 2020. Today, the number of new customers exceeds 66,000 and this number is still increasing at a fast rate! The company estimates that because of the governments “myDATA” initiative 200,000 companies will start using software. The deadline for compliance with myDATA is March 2022 and until then EN’s focus will be on increasing the number of clients with a target of 80,000.  

On top of growing the number of customers EN’s objective is to grow the revenues per customer through sales of complementary products. When a client puts IT at the heart of his operation, he sees the advantage of new software compared to the old way of doing things, like the use of excel. They see the benefit of staying up to date with legislation, a digital link with their accountant etc..

EN’s business with accountants went through a similar evolution. In the beginning the average revenue per customer was €150 per year and now it’s over €500. This business is now mature and the company expects growth at 5% p.a.. 

With the purchase of Singular Logic, EN bought the infrastructure to service medium sized and large companies. New requirements and Greek government and EU support will not only increase the number of companies using software but also incentivize companies to renew and upgrade their systems. This offers a rare opportunity to gain market share in what is generally a sticky business. The potential for revenue growth from their existing clients is also large. For example, approx. 50% of legacy Singular Logic clients are still on out-dated systems. The company expects significant growth in their ERP business supported by government and EU programs such as the digital wallet starting in April and a loan program for IT investments.

The HR/Payroll division also has very good growth prospects. A new law requires the daily digital recording of hours worked per employee. Most private companies in Greece use EN payroll software and therefore the company is in an excellent position to sell an additional module to comply with the new legislation.   

VALUATION

We estimate fair value at >€7 per share based on assumptions for organic growth and operating margins we believe to be conservative. We have calculated fair value based on 5 years of organic revenue of 10% although there’s a good case to be made for higher growth for a longer period. Current EBITDA margins are close to 30% and revenue growth in combination with operating leverage can push margins above the 33% we have assumed in our model. Value accretive acquisitions provide further upside. 

Downside risk is limited because of sticky recurring revenues, a strong balance sheet and an owner operator with a strong track record.  

Revenue

EN did €22mio in 2020, is expected to do €50mio last year and we believe revenue will exceed €71mio this year. Our revenue estimate is based on a combination of 10% organic growth and a full year contribution from acquisitions (€9mio) and Epsilon Smart (>€7mio). 

The current client base for Epsilon Smart should generate in excess of €9mio in revenue this year, a significant increase from last year considering that the majority of customers were signed in the second half of the year and growth is still going strong. 

A decade of under-investment in combination with Greek government and EU programs to support the digital transformation of the Greek economy should ensure a growing market for business software over the medium term. It is now clear that EN is very well positioned to benefit and double- digit revenue growth is highly likely.

EBITDA margins

The company expects EBITDA margins just below 30% for 2021. Strong revenue growth in combination with operating leverage should provide upside for margins for this year and over the medium term. Entersoft has a 37% EBITDA margin with a focus on a smaller number of larger clients. We value EN based on a 33% margin to take into account the cost of servicing a large number of small clients.  

Tax

Tax incentives for R&D explain the low historical effective tax rate of approx. 5%. We assume a gradual increase in the effective tax rate as the R&D investments decline as a percentage of revenue.

Capex

The company estimates capex at 60% of depreciation as a decision has been made to account for development expenses in operating expenses.

RISKS

• economic downturn 

Catalyst

• Operating results reflecting full year contributions from acquisitions and new customers
  
• Strong organic revenue growth
• Value accretive acquisitions
• Operating leverage resulting in higher margins