2020 hasn’t been easy for software company Integrated Research Limited (ASX: IRI) and its shareholders.
COVID-19 complications and multiple earnings downgrades have seen the company’s market valuation tumble close to 60% over the past year.
But yesterday, management released a trading update that suggested trading conditions had been improving, which saw its shares finish 8.4% higher. Is the worst finally over for IR?
IRI share price
H2 FY21 trading update
IR management indicated that stronger sales momentum will see H2 FY21 revenue come in between $40 million to $45 million, up from $34.1 million in H1 FY21, but still down from $57.7 million on H2 FY20.
Similarly, profit after tax for the current half is expected to jump to between $4 million to $8 million – a nice increase from only $0.1 million in H1 FY21. But again, this is still down significantly from the $12.2 million it generated in the prior corresponding period (pcp).
Annual revenue is expecting to come in between $74.1 million to $79.1 million, compared to $110.9 million in FY20.
Reported profit is expected to be between $4.1 million and $7.1 million, down from $24.1 million in FY20.
What to do with IR shares?
When I’ve written previously about IR, I mentioned that it could be a good idea to wait for signs of a recovery before potentially jumping in.
While yesterday’s trading update seemed to indicate this had happened, I think it’s also worth considering IR’s valuation first.
In the past, IR’s shares have traded on a fairly undemanding forward Price/Earnings (P/E explained) ratio of around 23, which isn’t bad for consistently growing earnings and paying a dividend.
If we assume that the market will assign the same multiple to IR’s shares moving forward, the current market cap of $354 million would imply that earnings would need to be around $15.3 million – significantly off the provided guidance range between $4.1 million to $7.1 million.
While this is clearly a rough valuation method, it would suggest that the market has priced in earnings levels close to that of what it was generating pre-COVID.
IR has a suite of products often described as being “mission-critical” for their customers. But it certainly makes you question how true this is if many of its customers had to redirect their spending elsewhere from the onset of the pandemic.
If it turns out that its software isn’t as mission-critical as we once thought, the market might not be willing to assign such a high multiple to its shares.
For me, there will need to be a longer track record of recovery to suggest that its share are worthy of such a valuation.
Integrated Research remains on the watchlist for now.
