DGII Stock Study (8-22-24)

Posted by Mark on October 13, 2024 at 06:45 | Last modified: August 22, 2024 12:04

I recently did a stock study on Digi International Inc. (DGII) with a closing price of $28.87.

M* writes:

     > Digi International Inc… provides business and mission-critical and
     > Internet of Things (IoT) connectivity products and services. It
     > has two segments: IoT Products and Services and IoT Solutions.
     > The IoT Products and Services segment consists of distinct
     > communications products and communication product development
     > services. IoT Solutions segment offers wireless temperature and
     > other environmental condition monitoring services as well as
     > employee task management services. The company generates
     > majority of its revenue from the IoT Products & Services segment.
     > Geographically, the company generates majority of its revenue
     > from its business in the United States and also has its presence
     > in Europe, Middle East and Africa and Rest of the world.

Over the past 10 years, the small-size company has grown sales and earnings at annualized rates of 9.7% and 15.8%, respectively (FY ends Sep 30). Lines are somewhat up, straight, and parallel except for YOY sales declines in ’16 and ’17 along with EPS declines in ’17, ’18, and ’20. Ten- (Five-) year EPS R^2 is 0.27 (0.68), and Value Line gives a lackluster Earnings Predictability score of 40.

I deem visual inspection to be “fair.” Sales looks better than EPS albeit single digits. EPS is hurt by ’18 (exclusion improves 10-year R^2 to 0.44). Leaving a more sour taste in my mouth is ’16 EPS of $0.51/share not being eclipsed until $0.54 in ’22.

Over the past decade, PTPM leads peer averages but trails the industry while ranging from 0.4% in ’14 to 8.2% in ’16 with a last-5-year mean of 4.1%. ROE also leads peer averages and trails the industry while ranging from 0.4% in ’18 to 4.6% in ’23 with a last-5-year mean of 3.2%. Debt-to-Capital is less than peer and industry averages despite increasing from 0% (through ’19) to 29.0% (’23) with a last-5-year mean of 18.6%.

Quick Ratio is 1.2 and Interest Coverage is 2.0 per M*. Value Line gives a B+ grade for Financial Strength and writes:

     > Since the end of fiscal 2022, the amount of outstanding debt
     > has declined 36%, from about $238 million to under $152 million.
     > The ratio of total debt to equity stands at a modest 21%.

With regard to sales growth:

• YF projects YOY 4.9% contraction and 3.1% growth for ’24 and ’25, respectively (based on 5 analysts).
• Zacks projects YOY 4.9% contraction and 2.5% growth for ’24 and ’25, respectively (3 analysts).
• Value Line projects 7.2% annualized growth from ’23-’28.
• CFRA reports ACE contraction of 4.9% YOY and 1.1% per year for ’24 and ’23-’25, respectively (5).
• M* provides a 2-year ACE of 0.3% contraction per year.

My 1.0% per year forecast applies a significant haircut to Value Line due to multiple estimates of short-term contraction.

With regard to EPS growth:

• MarketWatch projects 6.4% and 1.0% per year for ’23-’25 and ’23-’26, respectively (based on 5 analysts).
• Nasdaq.com projects 6.0% YOY growth and -2.1% per year for ’25 and ’24-’26 [4/4/1 analyst(s) for ’24/’25/’26].
• Seeking Alpha projects 4-year annualized growth of 14.7%.
• YF projects YOY 1.5% contraction and 7.7% growth for ’24 and ’25 and 5-year annualized growth of 17.0% (4).
• Zacks projects YOY 0.5% contraction and 5.0% growth for ’24 and ’25 and 5-year annualized growth of 17.0% (4).
• Value Line projects 14.2% annualized growth from ’23-’28.
• CFRA reports ACE growth of 188% YOY and 74.1% per year for ’24 and ’23-’25, respectively (4).
• M* projects long-term growth of 17.0%.

Given the limited number of analysts for this small-size company, I have data concerns:

• The 17.0% long-term growth estimate is duplicated across three of five sources.
• I rarely see such a weak 3-year MarketWatch projection [what do they think is going to happen in Years 4-5 in order to reach 17.0% or if 17.0% (worst-case scenario) represents just one analyst/model then perhaps it is badly flawed].
• I can’t remember last time I’ve seen the longer-term Nasdaq.com estimate (albeit just one analyst) lower than the shorter-term—not to mention negative (again, what does s/he think is going to happen in Years 3-5?). For me, confidence in the 17.0% estimate is lowered due to inconsistency with short-term estimates from three other sources.
• CFRA’s sky-high estimates suggest acquisition (that could also inflate a long-term estimate to 17.0% but neither YF nor Zacks give any such hint by their short-term estimates). No recent or in-process acquisition (nor nonrecurring gain in the footnotes) is mentioned by Value Line thereby making me question credibility of the CFRA numbers.

All that aside, my 12.0%/year forecast undercuts the long-term-estimate range [mean of three unique estimates is 15.3% (versus 16.0% across all five)]. Initial value is 2024 Q3 EPS of $0.46/share (annualized) rather than ’23 EPS of $0.67.

My Forecast High P/E is 40.0. Since 2015 (excluding 182 in ’14), high P/E increases from 46.5 to 65.2 (excluding 294 in ’18) with last-5-year mean of 65.4 and last-5-year-mean average P/E of 49.7. I am near range bottom [only ’16 (26.5) is less].

My Forecast Low P/E is 22.0. Since 2015 (excluding 107 in ’14), low P/E increases from 26.5 to 40.3 (excluding 184 in ’18) with a last-5-year mean of 34.0. I am forecasting below the range [only ’16 (15.1) is less].

My Low Stock Price Forecast is $20.20. Default ($10.10) based on initial value seems unreasonably low at 65.0% (50.0%) less than the previous closing price (52-week low). I will use the 52-week low instead: 30.0% discount to previous close.

These inputs land DGII in the HOLD zone with a U/D ratio of 0.4. Total Annualized Return (TAR) is 2.3%.

PAR (using Forecast Average—not High—P/E) of -2.8% is unacceptable for any size company. If a healthy margin of safety (MOS) anchors the study, then I can proceed based on TAR instead but even that is less than the current yield on T-bills.

To assess MOS, I usually start by comparing my inputs with those of Member Sentiment. I will skip because only four other studies have been done over the past 90 days (two outliers including mine excluded).

Value Line is more aggressive than me with average annual P/E of 41.0 (31.0) and high EPS of $1.30/share ($0.81).

My Low Stock Price Forecast exceeds the pseudo-rule-of-thumb 20% discount to previous closing price.

With regard to valuation, PEG is 0.9 and 4.7 per Zacks and my projected P/E. The latter is much higher due to my lower growth rate and initial value selection. Relative Value [(current P/E) / 5-year-mean average P/E] is also high at 1.3.

MOS is robust because my inputs are near/below analyst/historical ranges. This especially pertains to the most-recent-quarter initial value, which might be unreasonably low.

I do not share Value Line’s rosy outlook for this company. Sales growth and ROE are minimal. Interest Coverage is minimal (although Quick Ratio and Debt-to-Capital are fine). Historical EPS includes a disturbing flat time. 2-year sales estimates are negative. YTD EPS is contracting. Long-term EPS estimates light the way—if I can believe and [big if] P/E remains elevated.

I am eager to see next year’s SSG right now.

Per U/D, DGII is a BUY under $23/share. BI TAR criterion is met ~ $16/share given a forecast high price $32.40 (no dividend).

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