Thursday, February 17, 2011

Nice Systems Benefits from Increased Regulatory and Compliance Requirements







Nice Systems $NICE is a, err, NICE way to play the growing trends towards regulation and security management within financial services. Nice gave results recently and announced an acquisition which was well received by the market. With the implementation of Dodd-Frank and the increasing needs for firms to manage security and work flow optimisation, Nice looks set to grow strongly.

Nice Systems helps companies to extract insight from interactions, transactions and surveillance. The information is gathered from a wide range of different sources, from emails and phone calls to video surveillance. Nice should see good growth as financial firms start to spend again to support expansion and deal with mounting compliance and regulatory issues. For example, the Dodd-Frank legislation is expected to lead to many more firms being regulated.

Furthermore, financial firms and Governments are under increasing pressure to protect themselves and the company from internal and external security threats as well as ensure that work flow is being properly managed. These words sound abstract, but consider Nick Leeson and Jerome Kerviel, both of whom benefitted from lax monitoring and compliance controls.


Nice Systems Results

Turning to the recent results
  • Q4 Revenues of $187m vs. $180m estimates
  • EPS of 51c vs. 49c estimates
Guidance
  • Q1 Revenues of $179-$183m vs. $179.3m
  • Q1 EPS of 43-27c vs. 45c estimates
  • Full year Revenues of $775-800m vs. $768.5m
  • Full Year EPS of $1.96-2.06 vs. $2.02 estimates
It should be added that the guidance includes the impact of the CyberTech acquisition ($25m to full year revenues) which is expected to complete at the end of March. Nevertheless, the guidance for Q1 is an upgrade and Nice beat Q4 estimates handsomely.


CyberTech Acquisition and Nice Systems Position

 Essentially, Nice Systems is positioned at the high end of the Work Flow Optimisation market. As such, Nice tends to offer relatively expensive large scale solutions to the enterprise market. Whilst this leaves them exposed to cheaper competitors chasing Nice's installed base when they come to upgrade or renew, it also ensures that Nice offers a comprehensive best in class solution.

The CyberTech acquisition is intended to give Nice some complimentary solutions and also allow Nice to offer sales with a lower Total Cost of Ownership (TCO). In particular, CyberTech offers compliance recording solutions and has a good position within European financial services firms. CyberTech is not only a good technology fit but also a good geographic one too, as Nice's current strength is in the US and Asia. Buying CyberTech will also allow Nice to make inroads into the previously uncharted SMB territory.

One area of possible concern is public sector end demand, but it is probable that this is an area whereby Governments will be highly reticent to cut. Work Flow Optimisation gives a tangible return on investment and much of Nice end demand is regulatory and compliance led. Another cause of worry could be an increase in the demand from organisations for their WFO solutions to be sold by their contact center infrastructure provider. Although, Nice is focused on the high end so this trend is unlikely to have a great affect.


Nice on a Nice Stock Evaluation?

With a stock price of $35.36 Nice has a market cap of $2.22bn and an Enterprise Value of $1.92bn with a highly cash generative business model. The current PE ratio is 35.36/1.85=20.2x and Nice trades on 17.5x forward earnings. Turning to free cash flow Nice just generated $133.3m which puts the company on a FCF/EV= 6.9% which is very good. With some back of envelope calculations it is not unreasonable to expect Nice to translate the forecast $129.5m in net income into around $145m in free cash flow which would put the company on a forward FCF/EV of 145/1920=7.5% but it should be noted that the forecast tax rate for 2011 is only 17-18%

If you-very conservatively-adjust the numbers for a 30% tax rate the reduction could come to around $19m which would give an adjusted FCF/EV of  126/1920=6.6% approximately. If investors want to buy a stock on a forward ratio of 5.5% then this would give a of around $42.2

I bought some with this target in mind.