Value Investors Club / Barco (BAR.BR)

Description

Barco is a cool, (too) conservatively financed, rapidly growing Belgian technology company. Each of its six business units has strong secular tailwinds which will drive group ebitda growth of >20% pa over the next five years, and potentially longer. Trading at ~13x 2023 ebitda on my (imo conservative) estimates, we have the opportunity to cheaply acquire shares in a high-quality company with a long runway to compound.

First, a short comment on the write-up. Barco spans three divisions with two business units each, for a total of six business units addressing a wide range of markets. There is a LOT of ground to cover, and I could easily pen 20,000 words on the company, but I don’t want to make this write-up too long. I’ll provide a decent background here and happily address all questions in the comment section. Also, there is a relatively fresh CMD presentation on the IR site, with a ton of background.

On to Barco. Though perhaps not a household name, if you’re working within its niche markets, you’ll definitely know the Barco brand. Barco specializes in imaging technology, with a strong emphasis on visualization and collaboration. Almost all its products span the (ultra-) high-end range. The company boasts a unique product profile, an asset-light business model, strong organic growth and a renewed focus on expanding into new verticals and geographies.

As mentioned, the company's operations are organized into three main divisions: Entertainment, Enterprise, and Healthcare. Each division comprises two business units, totalling six business units overall. Although this structure may seem complex, Barco's primary concentration remains on imaging technology. Throughout its history, the company has been committed to delivering the ultimate image experience; projectors, medical displays, large-scale video walls, multi-platform audio and video sharing systems.

Barco's various business units, which are closely tied to end-consumer conditions, experienced significant impacts from the pandemic, including supply chain disruptions and inflationary pressures. Both 2020 and 2021 proved challenging, and the company's financial performance suffered as a result. The company’s sizable excess cash position and focus on efficiency (which dated the pre-covid years) enabled it to weather the challenges. 2022 was a successful year for Barco marked by continued recovery and clear indicators of acceleration.

The divisions

To effectively market its diverse array of products, Barco organized itself in three primary divisions (Entertainment, Enterprise and Healthcare), each composed of two business units. These units operate with a considerable degree of autonomy, maintaining their own sales, product management, and R&D teams (more on this later). Finance, legal and HR are managed at the group level.

1. Entertainment (38% of revenues)

Barco is perhaps most known for its high-end projection technology, particularly for the cinema sector. Nowadays, Barco provides projectors for a broad range of other projection markets, incl. museums, large (outdoor) wall displays, amusement park attractions.

A significant advancement in projection technology over the past decade has been the transition from lamp-based to laser based projection systems. Although the average laser projector carries a higher price tag than its lamp-based counterpart, the advantages of laser technology far outweigh the initial investment. Laser projectors deliver superior image quality, have a significantly longer lifespan and offer a lower total cost of ownership compared to similar lamp-based projectors. Lamp-based projectors require lamp replacements two to three times per year and consume up to 100% more energy compared to laser projector.

Cinema (18.1% of 2022 revenues)

Barco manufactures and distributes an extensive selection of high-end laser cinema projectors. Its current portfolio exclusively features laser projectors, the future of projection technology. All top 20 movie theatre operators are Barco clients and utilize Barco projectors in their establishments.

Contrary to the common belief that the cinema market is in constant decline, and as such bad for Barco, there are numerous opportunities in this sector for Barco to capitalize on its laser projection technology:

We are at the start of a significantly large projector replacement cycle, which will be concentrated in the period 2022-2027. Delayed by the pandemic, the aging of lamp-based projectors and the advent of laser projection technology are spurring a cinema projector replacement wave anticipated to peak between 2022 and 2027. Just keeping the old lamp-based projector is not a choice; cinemas have to switch.
The cinema industry has yet to fully recover from the pandemic's impact, but momentum is gradually improving. As China continues to reopen and Hollywood releases more content, audience numbers will continue to rise. Though not directly correlated to projector sales, it will once again provide for some growth in the global cinema market.
Geographically, cinema trends include 'premiumization' (i.e. more higher-end projections) in China, Europe, and the US, and increasing cinema penetration in less developed markets (i.e. more screens / population).

These factors will driving Barco's Cinema revenues in the coming years, particularly in the medium term as the replacement cycle gathers steam.

Immersive Experience (19.6% of 2022 revenues)

Owing to the exceptional quality and adaptability of laser projection technology, the laser projection market is experiencing robust growth. This market, excluding large projectors for the cinema segment, is tackled within Immersive Experience. Barco designs, sells and rents projectors and associated equipment for events such as concerts, light festivals, museums, attractions and simulations. The company also offers image processing solutions, which are predominantly software-based and yield higher margins. Many of these end-markets are relatively new, dynamic, and rapidly expanding, including Themed Entertainment (digital museums, immersive rooms, theme parks), Simulation & Virtual Experience (virtual reality experiences, simulation rooms), and Rental & Staging (projectors for events, concerts, light festivals, and city displays).

As mentioned earlier, due to their superior imaging capabilities and overall cost of ownership, laser projectors are poised to become the leading technology in projection markets. Many of these markets are relatively nascent, underpenetrated and rapidly growing. Importantly, image processing solutions (mostly software) is very important here, as many markets use tens, sometimes hundreds of smaller projectors combined. Image processing solutions are fundamental to merge and calculate the correct appropriate projections images on a multitude of platforms.

2. Enterprise (30% of revenues)

Meeting Experience (17.4% of 2022 revenues)

Meeting Experience is basically ClickShare, a conferencing system appropriate for hybrid conferences. The first iteration, ClickShare Present, was introduced in 2012 and enables users to easily display their laptop/tablet/phone content on a large screen in a meeting room. In early 2020 Barco launched ClickShare Conference, the next generation of ClickShare that supports not only wireless presentation but also wireless conferencing, i.e. an automatic connection to all meeting room peripherals, such as cameras, soundbars, microphones, and speakers, making the process of joining a meeting fast, straightforward, and hassle-free. ClickShare is the undisputed market leader in agnostic conferencing solutions, with an estimated market share of over 40%.

This segment, good for roughly 50% of Barco’s ebitda (I estimate Large Video Walls to be break-even), is perhaps Barco’s less well understood product; ‘how does it exactly work?’, ‘what about MS Teams/Zoom?’ are the questions I get the most. The main point is, ClickShare is an agnostic system for hybrid conferencing. It uses a plug-and-play device (called a dongle) that does not require software installation and is compatible with any device, operating system, as well as with any peripherals and conference systems (MS Teams, Zoom, etc.). You still need Zoom or Teams of whatnot to conference. There is a team in Korea with 100s of employees that full-time just update the system for each new peripheral driver/product release.

Another important point here is that ClickShare was growing rapidly before covid, but the pandemic accelerated demand. Over 1m meeting rooms worldwide use ClickShare (c.40% market share in the hybrid conferencing market, according to Barco), and the opportunity set is >50m. This trend is expected to continue driving Meeting Experience revenues for the foreseeable future.

Large Video Walls (12.6% of 2022 revenues)

Large Video Walls is Barco's legacy control-room product offering, providing the technology to create and install expansive video walls. Barco provides the hardware and software, but is not responsible for the implementation. This market is characterized by high complexity, lengthy lead times, and frequent cost overruns, making it Barco's least profitable business unit. Though not quantified, this segment has not been profitable for a decade. I estimate it to be roughly ebitda break-even over 2022. Barco is in the process of evaluating this unit and is considering all available options.

The review provides an attractive opportunity. Within this unit, Barco's primary value contribution comes from its software capabilities. Historically, the market has been predominantly hardware-focused, but software is gradually gaining prominence. Barco's software enables seamless and rapid distribution of images captured from various sources onto large video walls and operator desk screens. Historically, different software solutions are used at the operator desks and the large video wall. Barco very recently introduces a software solution that combines both, providing a single software stack solution. Given this introduction, it is my guess that Barco will discontinue (a large part of) its hardware offering and focus on its software solutions. As such, revenues will drop, a lot, but profitability will be much improved.

3. Healthcare (32% of revenues)

Barco’s Healthcare unit is perhaps believed to be its less sexy business (most analyst and investor meetings skip this division), but it is in my opinion the most interesting. A steady, conservative, low-growth division that is now ready to accelerate over the next decade.

Diagnostic Imaging (14.9% of 2022 revenues)

Barco designs, manufactures and markets an extensive range of Barco-branded, high-end medical display monitors for the diagnostic sector. These medical display monitors are specialized, high-resolution devices used in the healthcare industry specifically for viewing and analysing medical images. Given an ASP of €7,000, Barco sold c. 22,000 screens in 2022. Given the importance of these displays for physicians, the devices must be regulator (e.g. FDA) approved. Barco commands ~40% of the market.

The diagnostic imaging market is generally mature, especially in the US and Europe, where they are primarily replacement markets. Screens are replaced every six to seven years with newer, higher-specification models. However, there is still growth potential in Asia and the Middle East, where healthcare is improving more rapidly and penetration is lower. Revenue growth is generally volume-based, as prices tend to remain flat.

Despite the relative maturity of the market, several secular tailwinds will drive growth in the medical screen market for the foreseeable future: increasing healthcare expenditures, rising chronic diseases, technological advancements, and the continued transition from analog to digital. Barco’s focus with respect to growth is on less mature markets and new verticals.

Surgical & Modality (17.4%)

Finally, Surgical & Modality. This is a relatively new unit, established roughly a decade ago, and growth has been accelerating in recent years.

The ‘surgical’ part of the unit is Nexxis, a video-over-IP platform specifically designed for (digital) operating rooms. Nexxis is as a connectivity hub. An operating room is often filled with cables, instruments, screens, and various other tools. Maintaining a well-organized space is crucial. As operating rooms digitise, the amount of hardware is rapidly increasing. In addition, minimally invasive surgery is rapidly increasing; these are procedures where the surgeon (fully) relies on a camera to operate.

Nexxis consists of a hub (a software platform) and two or more surgical screens. This system provides for best in class image quality during operations and allows for the connection and centralisation of numerous medical devices, facilitating seamless data sharing (including video and audio of surgeries, as well as data from medical devices), without latency.

The ‘modality’ part of the unit represents Barco's OEM custom-built medical display business, which are medical screens as components of larger medical equipment, such as computed tomography, magnetic resonance imaging and ultrasound machines.

Both Surgical and Modality have witnessed robust growth in recent years, and we anticipate this rapid pace of expansion to persist. The demand is fuelled by secular drivers, similar to those mentioned for Diagnostic Imaging, as well as the growing need for operating room (OR) integration. OR integration involves consolidating and connecting all video and audio solutions into a single digital platform, linking the OR with hospital information systems and patient data, among other aspects.

An overarching trend: Increasing software within the mix

An important long-term trend across Barco's business units is the growing emphasis on software within the product portfolio. This trend is evident in all divisions: Entertainment – growing image processing solutions, Enterprise – growth of ClickShare and shift to software within LVW, Healthcare – the growth of Nexxis and software feats within medical screens.

The shift toward a higher software and services content will significantly impact profit margins, given higher gross margins for software than and hardware. Barco does not disclose the proportion of software but hints it to be at roughly 15% of group revenues. This shift to more software will be gradual; Barco also hints at the possibility of 25%-30% software revenues within a decade. This shift alone could increase the group's gross margin by at least 5%.

The (new) management

Besides some inflecting trends, it is important to highlight Barco’s new management team (the two co-CEOs) as important drivers of future growth. During 2009-2016, Eric Van Zele was Barco’s CEO. To call him ‘flamboyant’ is perhaps too nice. One thing he loved to do was acquisitions. To his credit, he bought ClickShare, though he’s mainly known for some horrible acquisitions. Jan De Witte replaced him in 2016 with one specific goal: clean Barco up. This was a relatively fortunate timing, as Barco was already in cost-cutting mode once the pandemic hit. Barco came out of the covid pandemic with a much leaner cost base, and was ready to start monetising the big trends. This is when Charles Beauduin and An Steegen joined (2021). Charles owns VandeWiele, a Belgian textile company which he bought on the brink of bankruptcy and completely turned around. Charles owns ~22% of Barco via VandeWiele.

The main focus of Charles will be Asia, specifically China. Barco recognises a lot of potential in the Asian market, and is shifting part of its production to China. Charles’ intends to leverage VandeWiele’s China connections to expand Barco’s markets. An Steegen’s focus on the other hand seems to be on the (development of the) technology. She’s clearly the more technological savvy CEO between the two. Though not communicated, it is my guess that Charles will step aside once the Asian growth is on track, and An will remain sole CEO.

The outlook

Barco provides a revenue split per business unit and earnings split per division. The company does not disclose volume and price indicators. I’ll provide a rough description of the assumptions underwriting my estimates.

Entertainment
- Over the medium-term (2022-2027), Cinema revenues will be mainly driven by the projector replacement cycle. I’m assuming ~33,000 projectors sold average in the period 2023-2027, based on an average ASP of €45,000 and 2% p.a. price increase. This is rather conservative; there are c. 200,000 cinema screens globally, of which 50,000 already shifted to laser projection, leaving 150,000. At 50% market share, that’s 75,000 for Barco. Nonetheless, this results in high-teens revenue growth for the Cinema unit.
- Immersive Experience is the long-term growth driver of this unit. This is also where software will increase the most within the mix. There are plenty of projection market growth estimates out there, and the most conservative assumes high-single-digit % p.a. over a decade. This is what I’m assuming over the medium-term.
- I’m assuming c2% gross margin improvement and 3% operating leverage by 2027 (2022 base) given manufacturing efficiencies, as Barco is currently in the midst of moving its production to China and Italy from Belgium, and a return to more normalised levels of R&D after the big shift from lamp-based products to laser.
Enterprise
- Meeting Experience. Covid accelerated demand for ClickShare, which was already strong in the pre-covid period. I’ve assumed a conservative 14% revenue cagr to 2027, though I expect the next few years to show much more rapid growth.
- Large Video Walls is taken as going concern (mid-single digit % growth). This will not be the case as I expect Barco to reduce its hardware offering.
- Profitability will be driven by the much stronger growth of ClickShare within the mix. A Further boost – which I did not take into account – could come from the shift to software in Large Video Walls.
Healthcare
- After a strong 2020, I expect Diagnostic Imaging to revert back to the long term growth trend driven by replacement, growth in new verticals and focus on the Asian markets. Growth here will accelerate once the China manufacturing plant is fully ramped up (by 2024). I’ve assumed a 6% growth cagr up to 2027 (2022 base).
- Surgical & Modality’s growth will slow down, but continued to be driven by the Nexxis offering. Nexxis has a decade long growth path (210,000 operating rooms globally, with Nexxis installed in c. 9,000 ORs), which is what will drive this unit.
- Given the lower margin Surgical segment, Surgical & Modality has lower a gross margin profile compared to Diagnostic Imaging (Barco branded medical screens). This will change over time as Nexxis revenues (mostly software) steadily increase, but will take time. The more rapid growth of Surgical & Modality is also the reason why profit margins are below 2019 levels despite much higher revenues. Now that Surgical & Modality’s product are on the market, operating leverage will kick in, pushing ebitda marings towards 17% by 2027.

Overall, I estimate c. €1.8bn revenues and a 18.6% ebitda margin by 2027. This compares to a target ebitda margin in the range of 14-18% for 2025 (not 2027) by Barco. Net working capital swung around wildly during the last few years given supply chain disruptions and pre-emptive purchasing given high inflation. Also, most investments are expensed in R&D, though I maintain capex at a relatively high level going forward. I estimate €290m free cash flow (undiscounted) over 2023-2025, lower than the €350m targeted by Barco over this period. Based on my estimate, Barco is currently trading at c. 13x 2023 ebitda, for a 22% cagr up to 2027 (2022 base).

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Long term tailwinds
Large Video Walls restructuring
Continued recovery from the pandemic
Manufacturing footprint optimisation (2024)

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			2023	2024
Price:	27.04	EPS	0	0
Shares Out. (in M):	93	P/E	0	0
Market Cap (in $M):	2,758	P/FCF	0	0
Net Debt (in $M):	-262	EBIT	0	0
TEV (in $M):	2,497	TEV/EBIT	0	0