Modernizing antiquated government systems

Echelon Capital Markets analyst Mike Stevens notes this little company is modernizing the government’s antiquated software systems.


This little firm is updating government’s antiquated software systems

Mr. Stevens says the company is on the verge of turning a profit after 2023, it’s in a defensive industry, has secular tailwinds behind it, and is catalyst rich with torque potential. Its offerings serve to modernize existing antiquated systems and technology, leading to significant efficiency gains and cost reductions. He explains those key reasons why investors should consider purchasing shares of HS GovTech Solutions Inc. (CSE—HS) for a long-term investment below.

While the company saw a tepid 5.7 per cent compound annual growth rate (CAGR) during its early days as a public company from 2015-18, current CEO Silas Garrison, who helped build HS GovTech’s cloud technology, stepped into the lead role in September 2018 while revamping operations to drive an about 25 per cent organic CAGR from 2018 to his year-end 2022 forecast.

Going forward, he projects another level-up in organic growth to an approximate 40 per cent CAGR over the next three years to 2025. Concurrently, Mr. Stevens expects the company to realize considerable operating leverage following a period of substantial heavy lifting in staffing up for incoming growth. He forecasts EBITDA (earnings before interest, taxes, depreciation and amortization) margins moving from a loss-generating -63 per cent in 2022 to 15.4 per cent in 2025, with an EBITDA-positive turn exiting 2023 (expects -$1.7 million for 2023, and turning from red to black thereafter).

HS GovTech’s business model is littered with defensive characteristics, as all revenues are generated from government customers that are less sensitive to macro swings while the majority of revenues stem from long-term contracts (i.e., five-years-plus) with annual recurring revenues (ARR). Additionally, the company owns a sizable customer base, comprising over 150 contracts and a 90 per cent retention rate.

Many state, provincial, and local governments are still using obsolete systems and processes to conduct business (e.g., paper forms, telephone “remote” inspections, and postal cheques), while the COVID-19 pandemic has increased the urgency (and funding) across all stakeholders toward modernizing technology.

The company trades at 1.2 times and 1.5 times 2023 enterprise value divided by, respectively, revenues and gross profit on Mr. Stevens’s 57 per cent forecasted growth, which compares very favourably to the industry giant Tyler Technologies Inc. at 7.3/16.1 times on eight per cent growth. He expects revenue of $9.5 million and gross profit of $7.6 million in 2023, up from $5.7 million and $4.1 million in 2021, respectively.

Notably, the company’s leadership team previously founded and built a software company that was later purchased by Tyler. In a consolidated space surrounded by larger players, the analyst expects take-out considerations to escalate alongside the HS GovTech’s scale.

Mr. Stevens initiates coverage of HS GovTech with a “speculative buy” recommendation and 12-month target price of $0.80 per share, implying upside of 175.9 per cent from the stock’s last closing price of $0.29 per share.

HS GovTech is a software-as-a-service (SaaS) provider serving the state, provincial, and local government markets across the U.S. and Canada. The company’s end-to-end product suite was developed to support environmental health and safety (EHS) agencies that are permitting and inspecting private businesses, such as restaurants, hotels, farms, and tattoo parlours, for health and safety purposes. Known as HealthSpace Data Systems Ltd. before April 2022, HS GovTech Solutions was founded in 1998 and is currently headquartered in Charlotte, N.C.

This is an edited version of an article that was originally published for subscribers in the January 2, 2023, issue of Investor’s Digest of Canada. You can profit from the award-winning advice subscribers receive regularly in Investor’s Digest of Canada.

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