Category: Australia & NZ

Stock: NEXTDC Limited
Symbol: NXT
Exchange: ASX
Latest Price: $6.13
Market cap: $2.1 billion
Currency: AUD
Financial Year: 30 June
Date: 8 October 2018

Sector: Technology
Industry: Data Storage

Investment Theme: Long-term Growth
Structural Trends: Rising connectivity and online services

Company Profile

NEXTDC is an Australia-based and Australia-focused technology company providing data center outsourcing solutions through a nationwide network of Tier III and Tier IV facilities.

Markets & Competitors

NEXTDC provides enterprise-class colocation services to local and international organizations. Clients include:

• Government agencies and private enterprise concerned as to whether off-shore data storage meets Australian Privacy Act and/or requirements for the protection of sensitive information;
• Global cloud providers such as Google, Amazon, Microsoft, IBM and Oracle;
• Large IT service providers such as Wipro, Tech Mahindra, NEC, Dimension Data, Fujitsu, NTT and Data#3; and
• Telecommunications providers such as Optus, Telstra, AAPT, Vocus, TPG, PCCW, Superloop and CenturyLink.

Financial performance

Revenue Growth

NEXTDC shows steady revenue growth over the past 5 years as it expands its data centers across Australia.

Net assets expanded to $1.2 billion in FY 18 from $282 million in FY15, funded by a mix of new equity and debt. Further expansion is planned for FY19:

NEXTDC recently announced plans to acquire three new sites in Australia for additional data centres in Sydney, Melbourne and Perth: S3 80MW, M3 80MW and P2 20MW – these new facilities in Sydney and Melbourne will be the largest ever built in Australia. That takes NEXTDC’s total future capacity to over 300MW.

Return on Assets/Equity

While revenue growth may appeal, return on assets is low at 0.64% in FY18 (FY17: 3.33%*). Return on equity is not much better at 0.95% for FY18 (FY17: 5.48%*). EBITDA/Total assets fell to 5.06% in FY18, from 5.75% in FY17.

Utility Origin Energy (ORG) earns similar rates of return at 0.88% (ROA), 1.88% (ROE) and 11.9% (EBITDA/TA).

*FY17 results were inflated by a $10.2 million tax credit.

Weaknesses

Development of new and existing data centers is capital intensive and sometimes undertaken without pre-sales commitment from customers, and there is a risk that there is not enough demand to achieve a sufficient return on investment.

According to various recent industry cyber risk reports, cyber incidents and their financial impacts are increasing significantly year on year and cyber criminals are targeting small and large businesses alike. To mitigate these risks, NEXTDC has implemented an information security management system based on ISO 27001 as well as undertaken ongoing penetration and vulnerability tests.

Catastrophic failure or equipment malfunction at a data center could result in NEXTDC not being able to provide power and cooling to support customers’ equipment, thus breaching service agreements and incurring contractual liabilities. To address this risk, NEXTDC’s data centers are designed and built with significant redundancy in place.

Technical Analysis

Twiggs Momentum has declined to a still-respectable 67% but 50-week Trend Index crossed below zero after a bearish divergence, warning of strong selling pressure.

Conclusion

Do not buy. NEXTDC earns utility-level rates of return on assets and does not justify its current high forward price-earnings multiple of 78. Long-term revenue growth will require significant investment in new data centers, funded in part by new equity issues which dilute returns to existing shareholders.

Disclosure

Staff of The Patient Investor may directly or indirectly own shares in the above company.