January 17, 2017 - 2:40pm EST by
2017 2018
Price: 10.00 EPS 0.23 0
Shares Out. (in M): 22 P/E 40 0
Market Cap (in $M): 220 P/FCF 20 0
Net Debt (in $M): -50 EBIT 5 0
TEV (in $M): 170 TEV/EBIT 53 0

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Halogen Software is an Ottawa, Ontario based provider of Human Capital Management (HCM) Software. Their primary product is Performance Management that allows Human Resource Managers and Department Heads to link work performance with compensation. Essentially, the goal of Performance Management is to remove some of the qualitative measures of performance management to ensure the squeaky wheels don’t get all the grease and the department’s compensation budget is allocated to the achievers. The company has a suite of 9 applications that include learning and development, Myers Briggs testing, recruiting and others. The company has about 2,200 customers and the typical customer has about 2.4 applications through cross-selling. Halogen is focused on the mid-market.


On January 12th, Halogen announced that they had formed a special committee to review strategic alternatives. While my speculation could be completely wrong, the line that caught my eye in the PR was: In connection with a potential strategic transaction involving the Company, Halogen has been involved in confidential discussions with third parties and a significant shareholder. My speculation is that JMI a VC/ PE firm and owner of about 9% of Halogen, may have catalyzed the strategic review. While it is not the only company that JMI has funded that might be interested, ServiceNow, a developer of IT service management software has been vocal about extending their reach beyond IT into HR/ HCM. ServiceNow has an application development tool that allows business users to develop applications for their department needs and HR/ HCM has been the primary category where ServiceNow has gained some traction. I would note that HR, like IT, is a cost center so efforts to automate processes (rather than tracking things in Excel) are promoted but not always funded to the degree they should be provding a need to “self-develop” software tools with an app development/ BPM tool. There are, however, limits to growing this way so being able to cross sell Halogen’s Software to ServiceNow’s customers would make HR vertical growth more attainable. With ServiceNow’s primary vertical, IT service management, increasingly penetrated I can imagine they are feeling increased pressure to grow outside of it in an attempt to maintain their valuation of greater than 10x trailing revenue.


Other potential bidders would include the mid-market HR/ HCM/ Payroll Processors like Ultimate, Paycom and Paylocity. Even ADP might be interested. Cornerstone OnDemand, Halogen’s primary pure play talent management competitor, has struggled to grow in the mid-market (CSOD sells to large companies) so Halogen would give them immediate access and scale in this market. Other potential acquirers would be Oracle, SAP, and IBM who all have HCM solutions but who all can largely only grow through acquisition.


The advantages to an acquirer would be to drive cloud scale and thus improve Halogen’s gross margins from the current 74% towards 80%. The payment processor oriented acquirers would achieve operating synergies by adding another product to their salespeople’s bag. Ultimately, in the hands of a larger company, Halogen should be able to achieve operating margins in the 20-25% range versus this year’s expectation of 12-13%. I would note that most of the potential acquirers mentioned above trade at 6-10x sales making acquiring Halogen at a current valuation of EV/ Sales (@$10) of 1.7x look very attractive.


Assuming a modest 2.5x sales a takeover valuation would be:


2017E recurring revenue:            US$70 million = CAD$91 million


2016A cash:                              US$50 million = CAD$65 Million


NOL (valued at half)                   US$10 million = CAD$13 million


Total @ 2.5x revenue     = CAD$306 million


Diluted shares out         = 22.2 million


Value per share             = $13.75 vs. current price of $10           


I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.


Strategic review has been announced and parties engaged

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