Description

We invest a lot in high-quality SMID-cap European businesses and Karnov Group is one of them.

IDEA SUMMARY

Legal information services are good but mature and country-specific businesses, and growing them across the fragmented European markets requires focused execution. As a dedicated operator with a proven track record in the home Nordic markets, Karnov Group has taken over this baton from diversified conglomerates. We expect Karnov Group’s continued monetization of home markets, the new opportunity in Spain and further market consolidation to result in a material earnings appreciation.


EUROPEAN LEGAL INFORMATION SERVICES

Legal information services integrate public data (current and past legislation, court cases) with proprietary content (reputable experts’ in-depth commentaries which interpret each legal act and are particularly important in Europe’s codified legal system). Legal professionals (law firm practitioners, judges, corporate counsels) commonly rely on such services to (i) develop an understanding of a particular subject matter through commentaries and links to relevant cases and (ii) access structured and up-to-date legislation. Essential for business and priced at $1-5K/user/year, such services are legal professionals’ core research but insignificant overall expense.

A legal information service is country-bound, as legislations and languages vary. Within a country, such services are monopolies or duopolies powered by a network effect, whereby their scale and incumbency attract the best experts (“contributor” to a top service is a coveted professional status) whose commentary stretching back over decades in turn attract most users. Growing a mature service is possible through the addition of new verticals and software tools as well as price increases tied to product upgrades – country-specific initiatives that require focused execution.

Legal information services in civil and common law systems

Europe’s century-old legal information services originated as family-owned print editions and largely migrated online in the early 2000s. Today, Europe’s largest legal information service providers are the multinational diversified conglomerate Wolters Kluwer (retiring from the complex business area), the publishing houses Lefebvre (France, S. Europe) and C.H.Bech (Germany) and the pure-play company Karnov Group.


OVERVIEW OF KARNOV GROUP

Founded in 1924 as a family business in Denmark and part of Thomson Reuters in 1986-2011, Karnov Group (“Karnov” or the “Company”) today is Europe’s independent and focused legal database operator and consolidator.

Unrivaled in Denmark but #2 in Sweden at the time, Karnov in 2018 acquired (at 11x EBITDA) the leading Swedish service Norstedts Juridik from Wolters Kluwer and thus consolidated the market. The resulting product upgrades, pricing power and introduction of new product modules (environmental and municipal compliance) revived non-existent organic growth to 6-10% per year. In late 2022, Karnov further acquired (at 9x) the two market-leading but stagnant Spanish assets from Thomson Reuters (Aranzadi, #1) and Wolters Kluwer (LaLey, #2) aiming to eliminate duplicate costs (near-term) and boost revenue alongside the Swedish case study. In the long run, Karnov foresees further disciplined pan-European expansion.

Karnov’s pro-forma revenue in 2022 was $228 mn (83% recurring, ~75% from online services and the rest from fading print publications) with the main contribution from Sweden and Denmark (20% and 22%, respectively; 42-44% EBITDA margin; 98% customer retention), followed by Spain (32% but only 12% margin) and France (26% and 14%). Karnov’s business is asset-light with 80% EBITDA-to-cash conversion before interest. Karnov’s shares trade in Stockholm since 2019. 

Karnov's key product

Karnov's product segments

Karnov's regional segments

Karnov's organic growth vs peers

INVESTMENT THESIS

We expect (1) an appreciation of Karnov’s earnings over the next four years due to organic revenue growth in Sweden and cost synergies in the combined Spanish business. More importantly, (2) from 2026 Karnov will be an even stronger business able to further consolidate the European market. Finally, we observe the Company’s (3) appeal to private equity or strategic investors.

1. By 2026, Karnov’s earnings will appreciate via (a) organic growth in Sweden and (b) cost synergies in Spain

(a) We expect Karnov’s pricing power and upselling of product modules to deliver continued organic growth of 5-8% per year in Sweden in 2023-26. We emphasize the country’s vast monetization potential: at ~$1,500/user/year (or 1% of an average legal’s firm total costs), the product is underpriced relative to its indispensable nature for customers. For example, we spoke to a customer who was surprised at Karnov's low price point upon looking up the invoice.

(b) We anticipate Karnov to realize cost synergies in the newly consolidated Spanish businesses through the elimination of duplicate administrative and sales functions (we believe a headcount reduction by as much as 50% is possible). We therefore expect Karnov Spain’s EBITDA margin to increase from 12% today to 20-25% in 2025 (effectively reducing the already inexpensive acquisition multiple to 6x) and possibly further.

These initiatives should increase Karnov’s EBITDA to $80 mn, ~1/3 higher than in 2023 and 2x the 2022 standalone level.  We also note Karnov’s potential to reignite revenue growth in Spain alongside the Swedish case study through product innovation (i.e. bundle and reprice the best content from Aranzadi and LaLey, introduce new product verticals) and pure price increase. We mirror the Company’s conservatism and do not incorporate this into our base case.

2. From 2026, Karnov will be an even stronger business capable of further European consolidation

As a result of earnings appreciation and reduction in leverage, by 2026 Karnov will be in a position to pursue further market consolidation. The mid-sized European markets of interest are Italy, Belgium and Portugal (where Wolters Kluwer is the #1), while the larger opportunities include France (LexisNexis, #1) where Karnov already has a foothold and Germany (Wolters Kluwer, #2); the acquisition of family-owned European industry majors C.H.Bech and Lefebvre Sarrut is less likely.

3. Karnov is an appealing asset for private equity or strategic investors

Karnov’s market leadership in Europe, competitive moat and strong cash flow may (again) attract a private equity or a strategic investor like Wolters Kluwer who may be interested in a dedicated in-house legal database operator. We note a consistently high investor interest in information services over the decades.


WHY NOW

The stock sold off and de-rated materially (from the peer-average level 16x NTM EBITDA to ~12x) throughout this year (the market has been tough for recent small-caps IPOs) and particularly after the 2Q earnings report. The report revealed a sequential decline in profitability in Spain which the market interpreted as a lack of progress on synergies extraction. However, Spanish operations have a pronounced seasonality in profitability, and the second quarter is always weaker than the first. We believe management has since the report been communicating this to the market. Synergy extraction should start next year after the migration of LaLey and Aranzadi to a single IT platform; for now the two recently acquired businesses are run separately.

Karnov has also stepped up investments into the single IT platform and AI capabilities (to a lesser extent). So overall, today's OPEX is above its "normalized" level while revenue is below - a setup that has historically been favorable for an investment entry point.


VALUATION

We value Karnov on mid-term projections only (i.e. Thesis Point 1, the “low-hanging fruit”). We apply the FY1 EV/EBITDA multiple of 15x (in line with the European peers Wolters Kluwer and RELX) to our 2026 EBITDA estimate of SEK841 mn ($80 mn) for the 2025 target share price of SEK107. Our bull and bear cases – the former reflects Thesis Point 2 and credits Karnov with a higher multiple of 17x, and the latter assumes subpar execution in Spain with no growth or synergies and a 10x multiple – provide for the price targets of SEK129 and SEK49, respectively.


RISKS

1. Karnov’s execution outside of the Nordic markets.

Karnov has been executing well in the Nordics but lacks track record elsewhere. We also note the Spanish market for legal information services is somewhat more competitive. Furthermore, eliminating headcount could be trickier than it seems in Spain due to labor unions (the Company and its local consultants so far firmly believe in the success of their plans). We also note here that the stock market currently gives next to zero credit for any future success in Spain.

2. Dilution of strong domestic profitability by new acquisitions.

Karnov’s EBITDA margin of 40-44% in the Nordics is at the higher end of the peer group’s range. Acquired at a disciplined valuation with room for operating improvements, less profitable targets can nevertheless be accretive for Karnov – a dynamic common for Nordic compounders expanding internationally.

3. AI

Since civil law is codified and less case-driven, the core value proposition of Karnov's product is expert commentary and interpretations of a given law. This is built around a person's reputation, i.e. needs a clear human input. Karnov does not seem like an obvious disruption target - in fact, peers like TRI operating in case-based common law countries (focus on case search and analysis) could be more vulnerable. Ultimately, we admit that predicting the precise impact of AI on legal databases and many other product categories currently seems impossible. 

Catalyst

1) Cost synergies extraction in Spain in 2024 following migration to a single IT platform
2) CMD later this year which will highlight progress in Spain and the timeline for synergy extraction in 2024 and beyond