Navigating a company’s turnaround can be quite the rollercoaster ride – smooth at times, bumpy at others, and occasionally veering towards the unexpected. For investors, keeping a watchful eye during these phases is crucial.
Identiv (NASDAQ:INVE), a company I discussed in an article three months back, is currently on this very journey. The prevailing economic climate seems to be tilting in its favour, potentially bolstering one of its crucial business units. However, it’s not all clear skies; Identiv faces challenges with another key segment, which hasn’t performed up to par, and I believe this mixed performance paints a complex picture of Identiv’s turnaround efforts. In this article, I’ll dive deeper into this contrasting scenario and what it means for Identiv’s path ahead.
Economic Environment
In the challenging economic landscape, particularly throughout 2022, businesses faced the impact of the Federal Reserve’s aggressive interest rate hikes. This was a strategic move to control inflation that had soared to 40-year highs. As we progressed into 2023, the scenario began to shift. The Federal Reserve raising interest rates to a range of 5.25% – 5.50%, which led to increased borrowing costs. But this approach successfully reduced inflation from over 9% in mid-2022 to around 3.1%. Now, with inflation gradually approaching the Fed’s target of 2%, there’s a growing sense that the central bank might consider reducing interest rates. This potential shift could pave the way for a stronger economic performance in the upcoming year.
I think Identiv, particularly its Premises division, stands to benefit significantly from this economic improvement. The third quarter witnessed notable growth in this segment.
Premises Outshining Identity
In the past, Identiv has faced challenges in consistently increasing its revenue and maintaining profitability, which I discussed in my previous article. This year, I expected an upturn in Identiv’s fortunes, starting from the third quarter, driven by its ‘Identity’ segment. This segment specializes in providing RFID-enabled IoT solutions to transform and secure physical items, with a focus on niche applications. However, Identiv’s recent performance has been somewhat uneven, deviating from these expectations.
Last month, Identiv released its third-quarter results, revealing a modest revenue increase of 2.7% to $31.85 million. However, the company reported a GAAP net loss of $0.01 per share, down from a profit of $0.01 per share in the same quarter last year. While I had anticipated stronger results, particularly driven by the Identity segment, the outcome was different. On the brighter side, Identiv’s GAAP gross margins improved by 140 basis points to 37.5%, non-GAAP gross margins rose by 178 basis points to 39.1%, and adjusted EBITDA saw a 6% increase to $2.2 million. Despite these gains in margins, they weren’t sufficient to steer the company towards net profits.
Delving into Identiv’s segment-wise performance sheds light on the mixed results. Contrary to expectations, the Identity segment experienced a revenue decline of 4.7% year-over-year, totalling $18.3 million, which was $3 million below the company’s expectations. This shortfall was attributed to delays in customer orders, now projected for completion by the end of the first quarter. Interestingly, the delay in delivering primarily lower-margin RFID products should have elevated the segment’s margins. Yet, the GAAP gross margins for Identity decreased from 23% to 21% in the third quarter on a YoY basis.
In contrast, the improvement in Identiv’s overall adjusted EBITDA and gross margins was primarily fuelled by the robust performance of the ‘Premises’ segment, which focuses on security tools and technologies for buildings and locations. This segment exhibited a substantial 15.3% revenue growth to $13.6 million in the third quarter, outpacing the growth rate of the physical security industry. Identiv registered significant advancements in both its commercial and federal verticals, with 14% and 16% growth, respectively. Not only did the Premises segment achieve impressive growth, but it also became more profitable, with its GAAP gross profit margin rising from 58% in the third quarter of 2022 to 60% in the same quarter of 2023.
With the U.S. economy showing signs of improvement, I believe the future looks promising for Identiv’s Premises segment, especially with new product launches in the pipeline. In a thriving macroeconomic environment, both commercial and federal clients are likely to increase their investments in end-to-end security solutions. Recent product launches like Pirmis, geared towards small and medium businesses, and the EG2 edge controller, which brings high-security cloud-based services to this market segment, are particularly notable.
Additionally, Identiv’s release of Enterphone 10.3, its updated telephone entry system, and the integration of Vision AI as a standard feature in all its video offerings, are strategic moves. These product launches could significantly enhance the company’s ability to capitalize on the substantial growth of its video software sales, which have already surged by over 100% this year compared to last. Such advancements are poised to potentially elevate Premises sales even further in the upcoming periods.
Identity’s Lingering Challenges
However, the Identity segment’s underperformance raises some concerns. Historically trailing behind Premises in profitability, this trend has continued into the current year. The Identity segment’s GAAP gross profit margin for the first nine months of the year stood at 22%, a decrease from 23% in 2022, while the Premises margins have consistently held at 57%.
My initial optimism for the Identity segment’s performance improvement, particularly from the third quarter, was bolstered by significant partnerships, such as the deal with Wiliot which involved an order of 50 million IoT Pixel tags.
Furthermore, Identiv’s new RFID production facility in Bangkok, Thailand, which became operational towards the end of the second quarter, was expected to significantly increase production capacity and enhance profitability. The Thailand facility, with its lower lease rates, reduced labor costs, more favorable tax conditions, improved supply chain, and decreased operational expenses compared to the Singapore plant, offers substantial cost advantages. Throughout the third quarter, Identiv has ramped up production at this site, and by year-end, it’s projected that the Thailand plant could achieve its maximum annual capacity of 200 million units. This expansion should contribute positively to the company’s overall profit margins.
In the third quarter, despite having factors that could have boosted performance, Identiv didn’t see the anticipated increase in revenues, profits, or margins. Notably, there were order delays from three customers in the library, packaging, and warehousing and logistics sectors, leading to a push in delivery timelines. Identiv expects to rectify this by the end of the first quarter, but it’s a development investor should monitor closely as it could impact the company’s financial performance.
Potential delays in future quarters might suggest underlying issues in certain end-markets or operational challenges that need to be addressed. To reduce these risks and any sector-specific vulnerabilities, Identiv needs to focus on diversifying its customer base.
Additionally, Identiv faced hurdles due to alterations in its cost reduction process, resulting in delivering 1.5 million fewer units than planned to Wiliot. This shortfall also likely negatively impacted the company’s revenue and earnings. To prevent such occurrences, Identiv needs to establish a more resilient operational strategy that can accommodate unforeseen disruptions without causing production delays.
It’s essential to consider that the company’s latest performance might just be a case of one bad quarter, and the company’s performance might improve in the fourth quarter and beyond. There’s potential for normalization in shipments, increased output from the Thailand facility, and easing margin pressures on products like Identity readers. Such improvements could elevate the Identity segment’s margins and, consequently, the company’s overall revenues and profits. However, the third quarter issues do warrant some concern. Investors may find it prudent to adopt a cautious stance and wait for clearer signs of improvement.
Takeaway
Identiv’s Premises segment has shown double-digit growth and could further benefit from the improving macroeconomic climate. However, the critical Identity segment is lagging, marred by operational issues. While this might be a temporary setback, it serves as a reminder for investors to exercise caution, especially given Identiv’s inconsistent track record in steadily growing revenues and earnings. It might be wise for investors to remain on the sidelines for the moment, until there are more definitive signs of improvement in the company’s performance.
Read the full article here