ATOS RECENT UPDATES
Atos announced its results this year will be lower than expected. Margins and operating profits are expected to shrink at least a tenth. Its share price fell by 17%.
- Atos announced 10 new supercomputers entered the TOP500 global supercomputing ranking. Atos has now 36 supercomputers listed on this ranking and is the fourth company in this ranking with 7,4% of total computing power after Fujistu (20%), Lenovo (15%), and HPE (11%).
- Atos continued its external growth with the acquisition of 3 companies: Processia, an engineering company in Canada, Ipsotek which specialises in video analytics software in the UK and Cryptovision, a German cybersecurity company.
- Atos and Thales joined their resources to develop a sovereign platform combining massive data processing and artificial intelligence. The solutions developed are supposed to be implemented in the defense, intelligence, and internal security sectors.
PRESENTATION OF THE COMPANY AND BUSINESS MODEL
Atos is a French IT company which offers many IT services such as digital transformation, cybersecurity, consultancy, or supercomputers. It is a worldwide company, present in 71 countries.
Since 2019, Atos is structured into 3 branches:
- Infrastructure & Data management (55% of turnover). This branch offers numerical services to companies (cloud computing, data centres…)
- Business & Platform solutions (36%). This branch offers advice to company for numerical transformation.
- Big Data & Cybersecurity (9%). This branch offers Big Data solutions, super calculators, cybersecurity for defence, transportation, and aerospace. Even if it is the smallest sector of Atos, it is the one fastest growing with a growth of revenue of 18,3% in 2019.
Atos enhanced its presence in other parts of the world through strategic acquisitions:
- 2014: acquisition of Bull, one of the main companies in Cloud Cybersecurity and Supercomputers (HPC) - 2015: acquisition of Xerox ITO for $811 million to enhance North American presence
- 2018: $ 3.4bn acquisition of Syntel. It allowed Atos to expand its presence in north America and realize $250 million synergies by 2021.
In early 2021, Atos failed to acquire DXC technology (US rival) for $10.
Atos also acquired many consultancy firms of IT companies. In 2020, Atos realized seven takeovers (including three cybersecurity consulting firms, a cloud partner firm, and an AI company).
SWOT ANALYSIS
Strength
Atos has strong investment capabilities. As a tech company, Atos invests toward data intelligence, cybersecurity, epayments, and even quantum computing (Atos Quantum Program). In 2019, Atos invested 235 million on R&D.
Atos has strategic partnership with other major companies in cybersecurity, computing, cloud or AI. These allies are diverse (Siemens, Google, Dell, SAP, Microsoft) and in varied sectors (education, transportation, telecom). Atos has secured crucial partnership with Amazon Web Service and Google Cloud, as Atos relies on them for cloud computing. Atos also has partnerships with Dell EMC, Pivotal and Vmware for digital transformations, with Siemens and RSA for security…
It is a major actor of computing services. It is the second European company in computing services.
Weakness
Atos is an indebted company. The Total Debt/EBITDA ratio is 3.2x, a high ratio for a risky sector. This ratio is high compared to Atos’s competitors. The medium Debt/EBITDA ratio of the sector is usually around 2.5x. The Total Debt/Equity ratio is 74%. It is very high compared to its competitors. This amount of debt is mainly due to the external growth of the company. The $3.4bn acquisition of Syntel in 2018 was financed by debt and was the biggest in Atos’s history.
Atos’s share price fell by 22% in April after the discovery of accounting errors in its business units in the US. The two US subsidiaries involved represent about 11% of the consolidated turnover. This represented another failure after the failed takeover attempt of the US rival DXC technology.
In the first quarter, the earnings were disappointing for investors. The turnover was down by 1.9%.
Opportunity
Atos is facing many growing sectors. Many firms are accelerating their digital transformation and call for Atos. Atos has positions in many promising sectors: quantum computing, cloud-based operations (expected to grow at the CAGR of 25%).
The sector of cybersecurity is growing fast because of the threat of cyberterrorist attacks and the issue of data security, cloud security. The development of the 5G may give opportunities to ATOS. In 2020, the Cybersecurity branch of Atos grew by 16% as Atos signed many contracts in the cybersecurity domain.
Threats
The main threat is the intense competition in the sector of IT services. Atos faces many big companies of computing services worldwide (TCS, Capgemini, IBM, DXC). Atos realized a very good performance in terms of turnover in 2019 thanks to the acquisition of Syntel. However, in terms of EBIT margin, ATOS is far below its main competitors (5,7% for Atos compared with 25% for TSC, and 15,8% for IBM).
OWNERSHIP
As of December 2020, the firm’s ownership includes:
- Siemens Pension Trust EV for 11.43% of shares outstanding.
- BlackRock, Inc. for 4,83% of shares outstanding.
- The Vanguard Group (2,88%)
- Atos SE, Employee Share Investment Plan (2,24%)
- Norges Bank Investment Management (2,14%)
MANAGEMENT & ESG ANALYSIS
The Dow Jones Sustainability Index ranked ATOS the most sustainable company in the IT sector. Atos wants to achieve the net zero emission by 2028. An environmental programme was initiated in 2008 to offset carbon emissions from data centres.
Morgan Stanley Capital International (MSCI) gave a Triple A score for Atos in its ESG rating in 2021. Atos has held the triple A score since 2017.
Atos affirmed many times its desire to become a more inclusive company and a better workplace. Atos entered a global partnership with Great Place to Work (GPTW) in 2011, and the Group also organizes frequent employee satisfaction surveys. In 2012, a European Works Council (Atos SE Council - SEC) was created to foster a social dialogue with employee representatives on a European scale. Atos employed 110 000 people in 2019. This figure doubled since 2010, thanks to the acquisition policy of Atos.
Atos has 60% independent director and 46% women in the board of directors.
Following the Covid-19 crisis, Atos has cancelled the dividend payment planned for 2019.
FINANCIAL ANALYSIS
Atos total revenue has only grown by 4% between 2015 and 2020 and this growth is mainly due to external growth (i.e., the multiple acquisitions led by Atos). The net income is down by 13% between 2018 and 2020. The covid crisis seems to have been a real disappointment for Atos financial statements and for investors. EBITDA and EBIT margins are also down because of Covid. EBITDA margin was 12,3% in 2019 and 11,3% in 2020. This puts Atos in a position of weakness compared to its competitors. IMB had in 2020 an EBITDA margin of 21% and TATA consultancy services an EBITDA margin of 28,4%.
But everything should not be put on the back of Covid. Between 2010 and 2015, the total revenue grew at a CAGR of 16,3%. Between 2015 and 2020, it grew at a CAGR of only 0,9%. This means that the slowdown of the revenue started way before Covid.
As we said previously, Atos is a very indebted company. The total debt/equity ratio is 76,5%, a very high figure and the Total Debt/EBITDA ratio is 3.1x. The multiple cash acquisitions of Atos endangered the financial structure of the company. The Altman Z score of the company has decreased every year since 2015. The 2015 Z score was 2.12 and the 2019 score was 1.67. This score shows a risk of solvency.
Atos spends a lot of money for Capital expenditure and cash acquisitions. Between 2015 and 2020, Atos spent on average €970 million on investing and spent €610 million on Depreciation and Amortization.
Atos succeeds in generating many free cash flows. In 2020, Atos generated €977 million FCF (it was €546 million in 2015) which is positive to establish its solvency.
MARKET ANALYSIS AND COVID IMPACT
IT firms provide diverse services related to software, internet, cybersecurity, cloud-based operations, databases or IT consulting services. The drivers of the IT industry are the necessity to digitalize the structure, the desire to optimize the operations and to minimize the costs.
Global expenditure for computing services has grown since 2015. It represented € 774 billion in 2015 and € 921 billion in 2019.
Many firms are transforming their structure towards more computing which represents a favourable outlook. IT services Market are expected to grow at a CAGR of 10% between 2021 and 2026.
Many IT sectors are considerably growing. The past few years saw a significant increase in cloud computing. Cloud computing allows companies to deliver computing services over the internet. Using cloud computing means that it is not necessary to host your own data servers. The firms can avoid the cost of owning their own infrastructure. In 2021, about 60% of software firms are fully cloud based. More generally, cloud-based IT services are expected to grow at a CAGR of 9,9% between 2021-2016. The Big Data market is also fast growing and is expected to reach $316 bn in 2026.
The COVID-19 crisis had two contradictory impacts on the IT sector. On the one hand, many clients were confronted to cash flow difficulties. The crisis reduced the numerical investments in the world by 7%. Some firms had to renegotiate or even terminate their contracts for IT services. The COVID-19 pandemic also exposed the danger of supply chain for IT services.
On the other hand, the IT sector was resilient during the pandemic. The Cybersecurity market continued its growth in 2020. In France, the market size was multiplied by 2.5 between 2012 and 2020, up to € 3,4 bn. Cybersecurity is a necessity for many firms and public administrations, to protect sensitive data and computing system. Those actors could hardly reduce they cybersecurity whereas they were more inclined to slow the digitalization of their model. Moreover, the generalization of teleworking stimulated the demand for VPN and secured platforms.
The demand for communications equipment and telecom services increased.
The development of the 5G should enhance the sector, as the need of faster access to data will stimulate the demand for IT equipment.
Globally, the market for IT services has grown by 0,8% in 2020 (8,1% in 2019). The sector is expected to return to substantial growth in 2021 (more than 5% according to Xerfi).
VALUATION
Our 12-month €65,50 price target is based on a 50:50 DCF/Comps. €71,5/shr (DCF based on discount rate 7%, terminal growth 1,2%). €59,50/shr from Comps.
Comparable analysis was based on five companies: IBM, DXC Technology, Cognizant Technology, Capgemini SE and Sopra Steria Group. Even if the IT sector is very diverse, those companies are similar on some points with Atos. They are present worldwide, especially in Europe and the North American Market. They usually offer the same type of products (digital consulting, cybersecurity solutions, cloud-based computing…).
Even if Atos has a small market capitalization compared to the other, they are more comparable in terms of Revenue and EBITDA.
Our conclusion is that Atos is largely undervalued in its EV/EBITDA ratio and Price Earning ratio. The EV/EBITDA ratio of Atos is 5.1x compared to a mean and average of 9.3x. Atos forward PER is 9,88x compared to a median ratio of 13,41x. The contrast is sharp vs. its direct rival Capgemini (20 times forward earnings).
Due to lower growth perspective compared to competitors, we slightly reduced the multiples applied to Atos’s EBITDA and EPS we found an implied share price of 59,50€, representing a 31% premium.
INVESTMENT THESIS
• We set a buy recommendation for Atos’s stock, with a 12-month target price of €65,50 vs €45,50 currently, representing a 44% premium.
• We believe that the very low price of Atos today results of the bad short-term performances and the setbacks (accounting mistakes, failed acquisition of DXC, Covid outbreak, management mistakes). The market sanctioned Atos for these failures but we believe that the intrinsic value of the company has not been tremendously affected.
• We are bullish on the intrinsic value of the firm and on its relative valuation and believe that Atos could constitute a good investment in a 1-year term.
• Atos remains a major player in the IT services market. It is the second European company in IT services. Atos has a satisfying external growth strategy and has led many successful acquisitions. sector. The demand for IT services is growing as the economy is being digitalized and faces many security threats. Atos aspires to be a big actor of the transformation of the IT world. Therefore, Atos deploys every year strong investment capabilities, especially in dynamic and promising sectors (quantum computing, cybersecurity, cloud-based operations).
• Nevertheless, Atos remains a slightly fragile company less likely to outperform its competitors. Atos growth of revenue and EBITDA margins are lower than its main competitors and faces a worrying debt.
• Atos’s management has made several mistakes and endangered its relations with shareholders. After the announcement of the takeover of DXC, share price tumbled by 13% as the market estimated this offer overvalued. Many shareholders estimate the management is the main responsible for Atos low share price.
• Moreover, rumors of Atos being viewed as a takeover target by private equity firms could represent a trading opportunity for investors