What: Shares in Recall Holdings Ltd (ASX: REC) plunged 5% on Monday after the document management firm reported that group net profit (including once-off items) fell by 3% in the year to June 30. A US$39 million cost associated with demerging from Brambles Limited (ASX: BXB) in December pushed down profit from what would have been a 57% increase.
So What: The underlying results were promising, but weakness in the group's Secure Destruction Services (SDS) business appears to have investors worried. Of the company's three operating divisions; Document Management Services (DMS), Secure Destruction Services (SDS) and Data Protection Services (DPS), SDS was a drag on revenue and earnings, while DMS and DPS saw encouraging growth.
The SDS segment recorded an 8.6% decline in revenue and has prompted the company to perform a review of operations. The North American SDS business is expected to return to revenue and margin growth in the next year, while the German SDS business will be sold. This should improve group margins over time.
Group revenue improved by 6.7%, led by an 11.7% increase from DPS and a 9.1% increase from DMS. DMS now accounts for 77% of sales, DPS 13% of sales, and SDS around 10% of sales.
What now: The problem with investing in recently-listed stocks; even if they have been demerged from a company with a long listed history like Brambles, is that the lack of past earnings visibility can cloud the investment case. I usually prefer to wait 12 to 18 months before investing in newly-listed companies to allow an earnings trend to emerge and make a reading on the quality of management.
In Recall's case, management expects organic growth to boost revenues by between 5% and 10% over the next 12 months and that by this time next year demerger-based investment in the business should be largely complete.
Recall is a defensive company that is exposed to the growing data management market. The transition to more digital storage of data will be a challenge for the company, and leveraging an integrated physical and digital solution for existing and new customers will be key to success. In my opinion, investors have a right to be cautious about the company until more data is available.
