Over the years we have had great success investing in underfollowed technology companies in Europe.
One example is Telit Communications (TCM.LN), a company based in the UK that has important
technology and trades at a low valuation. Telit surfaced on one of our valuation screens last spring as a
stock with a low Enterprise Value to Revenue ratio. This valuation metric highlights companies that
have the potential to be very cheap on a Price to Earnings ratio if they can expand their margins in a
meaningful way. We see lots of leverage in Telit's business model and expect margins to ramp rapidly as revenue grows. Revenue growth is a function of execution in the expanding IoT market and Telit has demonstated an ability to execute over the past five years.
Telit is an important player in the burgeoning Internet of Things (IoT) market. The Internet of Things
envisions a web of connected devices each providing data to a central repository where the data can be
analyzed and used to make better corporate decisions. Each device contains at least two parts: a sensor
for sensing the desired data and a communications module for transmitting the sensor’s output to the
central repository. The modules usually transmit the information on cellular bands such as 2G, 3G, and
4G LTE over networks such as Verizon’s and AT&T’s. IoT customers are usually satisfied to use the older
networks such as 2G and 3G because their data is low bandwidth and those networks are cheaper to
use.
Telit is the leading provider of communication modules in the world and is on track to do about $375
million in revenue this year. Its revenue has grown at a 15-20% clip over the last five years and the
growth outlook remains positive as the IoT market continues to expand. The company’s valuation is
highly attractive at just 1x sales and 7x EBITDA, especially relative to its growth rate. Telit’s business
model is appealing because its modules are designed into its customers’ devices which generally have
long lifetimes as they are industrial products. This provides a fairly steady stream of revenue to Telit. In
addition, as long as the company maintains a good relationship with its customers it is likely to be
designed into future product lines as well. Finally, the competitive landscape is fairly benign with only
two other competitors (Gemalto and Sierra Wireless) who do not generally compete on price but rather
are satisfied to grow with the overall IoT market. It is difficult for new competitors to enter the market
because of the difficulty scaling these types of businesses. Each communications module has about 160
parts, Telit offers 151 module types, and the company sells about 20 million modules per year: this
complexity creates a significant barrier to entry.
So what do we believe the market is missing? Telit stumbled in the fall of 2015, due to weakness in its
U.S. business. AT&T announced that it was shutting down its 2G network causing IoT customers using
that network to scramble to find a new network to use. About twenty of Telit’s customer decided to
wait for a new LTE network called LTE-Cat1, which was not yet available at that time. This pause in
order activity caused a shortfall in Telit’s U.S. sales and led to a meaningful decline in the company’s
stock price. LTE-Cat1 networks have become available this year, with Telit’s modules the first to be
certified, and the company is predicting a significant recovery in its U.S. business as a result. The
market, however is taking a wait-and-see approach resulting in the company’s discounted valuation. From our work we are more confident about the prospects for the U.S. business and think that it will
