Barco

Today’s company is Barco (€1.8bn market cap), a Belgian technology company with a focus on imaging technology. This is a high-quality, well-financed, cool company with a positive outlook for the next years. The shares are currently on sale due to a few specific reasons, providing an attractive opportunity into an original thesis at a heavily discounted price. Not often does decent size quality + growth + strong balance sheet trade at a large discount. As Barco continues to perform and the current uncertainty subsides, the share price should rerate back. A normalisation of the multiple on growing earnings indicates >100% upside over the next 2/3 years.

Given the many facets of Barco’s products and markets, I will dispense with the usual detailed background and market info in order to keep this post digestible (sorry for the laziness); this VIC write-up covers a lot of ground on the info you need regarding the background, the divisions and the secular tailwinds that Barco enjoys. Everything in the write-up is still very much relevant, and is a must read to understand the company. Here, I’ll focus on the reason why the shares are trading cheaply today.

A quick overview

In short, Barco’s operations are organized into three main divisions: Entertainment, Enterprise, and Healthcare. Each division consists two business units, totaling six business units overall. The three divisions operate separately, with only the most general corporate functions (HR, legal, etc.) managed at the HQ level. There are few, if any, synergies between the divisions.

Barco's primary focus is to deliver the best imaging experience. The company is well-known for its state-of-the-art projectors (Entertainment), medical displays and operating room equipment integration software (Healthcare), as well as large-scale video walls / control room software and its multi-platform audio and video sharing system ClickShare (Enterprise). Barco is a juggernaut in almost all its divisions, with a large market share in many of its markets (again, refer to the VIC write-up).

Each division has multi-year tailwinds:

• Entertainment is at the onset of a 5-7 year projector replacement cycle, as the old generation of lamp-based projectors is replaced by higher quality and lower total cost of ownership laser-based projectors. This replacement is a must, as lamp-based projectors are running at the end of their useful life, and makes this cycle independent of cinema attendance numbers. Also, the flexibility of laser-based projectors is creating and growing many other interesting markets, such as immersive rooms, theme parks, concerts.

  

• Enterprise is mostly ClickShare, an agnostic audio and video conferencing solution, mostly suited for hybrid conference rooms. This was a rapidly growing market before covid, but accelerated since. Barco’s offering has been deployed in 1.5m conference rooms, but the company is estimating a total market of about 100m. Within Enterprise, there’s also the Large Video Walls (LVW) unit, which is currently under reorganisation. This unit has long been unprofitable and Barco recently announced its intention to accelerate the transition towards software, where it holds a pretty solid proposition within the LVW / control room market.

  

• Healthcare has long been a steady and conservative division, focussed on Barco’s high-end medical screens. This business is sticky, given the necessary regulatory approval (e.g. FDA) for the screens. Over the last few years, the company introduced its Nexxis offering for operating rooms. This has turned the division into growth, with an opportunity to continue to grow over the next decade+.

  

While each unit will continue to grow over the next decade, an important overarching theme here is the steadily increasing focus on software compared to hardware. While not directly communicated to the market, Barco has clear (internal) targets to grow software solutions within the mix. This dynamic is partly natural, as the technology is increasingly shifting more towards software, and partly targeted, such as within LVW. All in all, expect a gradual (but not necessarily linear) increase is Barco’s gross margins over the next decade (see below for a few charts).

Overall, I expect Barco to be able to grow revenues at a high single-digit % rate p.a. over the long-term, with continued margin expansion potential, especially over the medium-term. Barco suffered during covid, but is today in track to meet and exceed the strong pre-covid 2019 ebitda margin for FY23 (>14%). As the company is finalising its manufacturing footprint optimalisation and is thus incurring higher costs / lower capacity utilisation, I conservatively expect Barco to be able to grow its ebitda margin by roughly 1% p.a. over the next 3 years or so. Longer-term, operating leverage will continue to be important, which in combination with increasing gross margins, will push ebitda and cash flow generation to increasingly higher levels. Barco is currently trading at ~10x 2023e ev/ebitda (BB estimates), for what I estimate could be 15-20% p.a. ebitda growth over the next 3-5 years, and roughly 20% of enterprise value in net cash by the end of FY23. Pretty good for such a high-quality business.

What’s the deal

But let’s now turn to the point of this write-up - the current share price weakness - which provides an interesting entry point into this high-quality company.

Barco recently released pretty decent H1 23 results. 2023 is going to be another year where profitability is much weighted towards the second half, and the company confirmed that it is on track for its best year ever (for the current iteration of the company). So far so good. However, the shares dropped 16% on the day, after already correcting quite a bit over the previous months.

So what happened?

To sum it up:

• For starters, Barco was not very clear in communicating some divisional results, which caused confusion amongst investors. Based on the results it seemed as if Barco’s most profitable product (ClickShare – which is Meeting Experience within Enterprise) has been performing rather poorly. This would be a big disappointment, given the strong secular growth expected for this product and its importance in terms of profitability. In addition, the company has been guiding for an important announcement at the H1 results regarding the strategic review of Enterprise’s other segment, Large Video Walls. However, though Barco did in fact present the conclusion of this review (basically an accelerated focus on software), it only provided qualitative commentary without any targets. Investors were upset, as they were expecting a more concrete plan.

• Another major reason (or better, the main reason) for the hit to the share price was the absence of co-CEO Charles Beauduin at the conference call (held twice a year). Mr. Beauduin is the largest Barco shareholder and a well-respected and beloved businessman, often viewed as the Belgian Warren Buffet. Indeed, Charles made his fortune based on the acquisition of a struggling textile company, turning it around, and investing the profits into other ventures, such as Barco. He has been a key pillar of Barco of the past years, providing the company with increased focus and direction, which it very much missed in the past. But unfortunately, Charles recently fell ill, necessitating a break from his daily operations. At the request of Charles’ family, Barco did not put out an official statement, which caused the info to slowly leak to the market. Many investors listening to the recent call where not even aware of his health issues. The silence and mystery around the status of his health has been a major cause of uncertainty.

• The last ‘issue’ was the relative weak performance of Healthcare, which is continuing to experience softer volumes as a result of the unfortunate timing in the phasing in/out of (new) projects and a slower than expected reopening of China. Orders can be lumpy in this division and while Barco company was previously guiding for an improvement over H2 23, it now assumes that the pipeline will contribute again to growth towards 2024. This division is currently also incurring higher costs given the ramp up of a new factory in China.

Bottom line: while Barco has been performing relatively well overall, uncertainty over the pace of the China reopening, the unclear communication regarding Enterprise (Clickshare vs LVW) and (mainly) the mystery around the co-CEO’s health have led to a sharp derating of the shares. This was exacerbated by the fact that Barco releases earnings only twice a year, at H1 and FY results (only sales figures at Q1 and Q3), and the same holds for conference calls (also only held at H1 and FY results). This discouraged many market participants, as they assumed that there won’t be material news before the FY23 results – in February 2024!

Despite all this, I believe that the market is grossly overreacting and that the share price is reflecting an extreme level of uncertainty, which will subside over the next year or so, despite some volatility along the way.

Why this is an overreaction

On the confusion regarding Enterprise. The market worried about Enterprise’s disappointing H1 23 ebitda margin (-2.7% yoy to 15.7%) and inferred poor ClickShare (aka Meeting Experience) results. However, reading into the results and speaking with the company, it is clear that ClickShare has actually been performing rather well. According to Barco, Meeting Experience reported high single-digit yoy growth over H1 23. And while the divisional weakness was thus mainly attributable to Large Video Walls, Barco indicated a significant number of delayed orders to turn to sales during the second half of 2023, bringing LVW to ebitda break-even for the full year. This reflects a very large swing for LVW over H2.

Furthermore, remember how the market was disappointed by the few details re the results of the strategic review? Well, it turns out that there are some pretty interesting targets for LVW. Over the next 12 months, Barco will solely focus on the development of software. Its relatively new LVW hardware solutions will continue to be provided, but will subside over the next years. Furthermore, about €50m of unprofitable revenues will be killed-off right away, along with roughly €3m opex. All in all, this should bring LVW’s ebitda margin up to 16% within three years.

This is a major step, considering that Enterprise’s 2022 ebitda margin was ~19%, including the unprofitable (at ebitda level) LVW unit. While we do not have an exact figure, ClickShare is (by far) the company’s most profitable product and it is reasonable to assume a fair amount of continued operating leverage. Combined with the turnaround of LVW, Enterprise’s ebitda margin could be poised for significant expansion over the next few years.

Regarding the uncertainty of co-CEO Charles Beauduin. Barco has at the moment no intention to communicate on the matter (at the request of the family). The only thing we know is that Charles ‘will not return before the end of the summer’. Clearly, the silence is providing room for speculation and uncertainty. Nonetheless, Barco guarantees that the impact on the company’s continuity is ‘negligible to none’, given the current co-CEO structure.

I agree with the company. Charles has been instrumental in providing Barco with direction and focus over the past years, which was very much necessary, but the strategy (change) has been set out and is currently almost completely implemented. Barco’s structural changes have been finalised, and the company is in the final phase of optimising its manufacturing footprint; the plants are built and the company is now moving its manufacturing around. It’s ‘solely’ a matter of execution. There’s of course always risk, but all the heavy lifting has already been done.

Also, if I could summarise the CEOs in one word, I would say Charles is ‘China’, and An Steegen ‘technology’. I believe the latter is more important at the moment. Nonetheless, Charles is a well-known and influential person. Any news around his health situation will be paired with volatility.

Lastly, I expect the overall relative weakness of Healthcare to continue to be compensated by a strong Entertainment division. H1 23 was very strong for this division, both from a revenue and a profitability perspective, and this performance should continue based off a strong order book.

The period ahead might continue to be volatile, given few visible catalysts ahead. There won’t be an earnings release and conference call for six months, the former being important given the once again large skew of earnings generation in H2. Nonetheless, despite this apparent lack of imminent catalysts (except for a potential communication regarding the status of Charles), the discrepancy between the current share price and my assessment of Barco’s value is very large. A normalisation of the multiple towards a better reflection of the company’s quality and growth potential (15-20x ev/ebitda), on growing earnings, indicates >100% upside over the next 2/3 years.

As always, this is not advice and only reflects ToffCap’s opinions. Everyone should do their own due diligence!