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CUI Global (NASDAQ: CUI) is a platform company focussing on the acquisition, development and commercialization of new, innovative technologies. The company operates through two divisions – Power & Electromechanical, and Energy.
The strategic focus for CUI Global is the Energy segment. We believe that this business is entering a phase of transformational growth. In this report we examine the growth potential for the Energy segment and some of the major projects which will deliver this growth.
GasPT is a product for analysing natural gas in near real-time as it passes along transmission pipes. This has important applications in gas distribution grids, biomethane, and gas turbine power generation. The GasPT technology has significant advantages in cost and performance compared with pre-existing technologies.
The product has regulatory certification in key initial end markets, and is already in commercial service on a modest scale. The key to realising the full value of the technology is in achieving deployment on a gas network-wide scale. CUI Global has contracts in hand which deliver this scale, notably with Snam Rete of Italy. However, delays in project implementation (unrelated to GasPT itself) have been a major headwind to the stock price. We believe that there will be significant progress on GasPT projects in the near term. In this report we examine some of the major opportunities.
Revenue growth in the next two years will deliver a strong drop-through to profitability in our view, summarised in the table below. Based on our 2019e and 2020e forecasts, current valuation multiples imply that the market is ascribing a low probability of success in delivering growth and profitability. In this report we provide a sensitivity analysis on valuation metrics, with realistic upside scenarios of well over 100% stock price gain.
We believe that the CUI Global investment case presents some interesting upside potential:
• Strong revenue growth over 3-5 yrs, with significant potential starting in 2019
• Transition to positive profitability 2019, growing profit thereafter
• Trading on low valuation multiples currently
We examine each of these aspects of the investment case in this report.
The company operates through two divisions – Energy, and Power & Electromechanical. The following charts show the revenue split by division, and also by geography.
The Energy division, although it is the smaller of the two, is the strategic focus of the group, and in our view the key value driver for the stock price going forward. The company has indicated that the Power & Electromechanical division could eventually be sold off, with the proceeds reinvested in Energy.
We briefly summarise the two divisions:
Power and Electromechanical
The Power and Electromechanical segment produces and distributes electronic components, across two main categories:
Power Solutions – products include external and embedded ac-dc power supplies, dc-dc converters and digital point of load modules.
Components – products include connectors, speakers, buzzers, and industrial control solutions including encoders and sensors.
Across these two categories, CUI serves industries including telecommunications, consumer electronics, medical and defense, among others.
The Power & EM segment is profitable, and has delivered growth in 2017 and 2018, which we attribute to cyclical restocking by customers, new product introductions, and an expanded distribution channel, which we expect to continue in 2019. Also during the near/medium term we believe that this business will benefit from revenues from a new product line called ICE (Intelligent Control of Energy) which serves the data-centre market. We examine this on p7.
The Energy division offers a range of products and services providing gas engineering solutions to the gas utilities, power generation, manufacturing and automotive industries. Products include telemetry, metering, and emissions monitoring solutions. In 2019 we expect to see significant incremental revenues from a product called GasPT.
Energy division: GasPT, major value driver for the whole group
GasPT is the major focus of our investment thesis. This is a product for measuring properties of natural gas, with several important applications:
1) Gas distribution grids
2) Biomethane to the gas grid
3) Gas turbines generating electricity
In this report we provide an overview of some important projects for GasPT which are progressing or imminent.
Revenue growth drivers for CUI Global
Revenue growth over the next 3-5 years is the major driver of the stock price, in our view. Within this, the GasPT is particularly important. Over the next 4 years we are forecasting 18.0% per year revenue growth (CAGR), of which 11.6% is from GasPT and 6.4% from others.
The following chart shows our revenue forecast out to 2022, across the two divisions, with GasPT split out from Energy, and with the ICE product split out from Power & Electromechanical.
GasPT is a device for analysing characteristics of natural gas. The device can measure calorific value amongst other qualities. This is important because not all natural gas has the same composition or quality, and users often need to know the exact energy content they are receiving for, among other things, accurate billing and/or efficient operation of large, gas-operated engines (some other details in the examples which follow).
CUI Global owns exclusive rights to manufacture, sell and distribute GasPT through a licencing agreement with the original designer, a Norwegian company called DNV GL.
Enabling technology: VE
The company also holds exclusive rights to an important associated technology called the VE technology, which allows a probe to collect a sample from a high-pressure transmission line in less than two seconds. It is not possible to collect a sample by just inserting a tube, because gas vortices and filtration distort the sample. The GasPT and VE probe, together offer a system for near real-time gas analysis.
The following diagram shows a GasPT unit.
The device shown is a cylinder about 40cm long. A complete GasPT system consists of two of these cylinders plus additional equipment, in a case about 1 cubic metre, which sits directly on top of a gas transmission pipe – known as the GasPT integrated unit or GasPTi.
There is an existing technology allowing natural gas distributing companies and industrial users to analyse their gas – the gas chromatograph. This technology has been in the market for decades, and uses the diffusion properties of a gas sample to separate its component gases. The GasPT offers some substantial practical advantages:
The following charts illustrate the cost advantages of GasPT compared to chromatography.
In 2016 CUI Global made its first deliveries of GasPT units to Snam Rete, Europe’s largest natural gas transmission company. These represent the first phase of a large programme. The following diagram shows Italy’s natural gas network, with Snam Rete pipelines in red.
Italy has a strategic goal to become a natural gas hub, with gas entering via pipelines across the Adriatic and Mediterranean and LNG ports.
The fundamental need for GasPT
The issue for Snam Rete is that these different gas sources come with varying calorific values. Natural gas from different sources can have anywhere from around 25 megajoules per cubic metre (MJ/m3) to 45 MJ/m3.
The following chart shows the major sources of natural gas into Italy.
When Snam Rete bills its customers for gas blended from two different sources, it is obliged to calculate the price on a conservative assumption, i.e. erring towards the lower of two calorific values. With GasPT there will be no more estimating, as calorific values can be measured accurately in near real-time across the grid.
Delays and outlook for the Snam Rete deal
In October 2016 Snam Rete suspended deliveries of GasPT, owing to a tariff issue impacting its own plans for the grid. All regulatory approvals were in place for GasPT and remain so. In October 2017, Snam Rete announced a solution to the issue and its intention to resume receiving GasPT. However, a subsequent change of government in Italy has led to further delays in signing off Snam Rete’s new plan.
We believe that a solution could be in place by the end of 2018. The contract then calls for 3,300 GasPT units, over 3-5 years. This order size could be expanded to 7,000 units as the project progresses.
On an expanded contract size, the Snam Rete deal alone could deliver our 2019 and 2020 revenue forecasts for the GasPT product (chart p3).
The UK, in common with other countries in Europe and globally, is looking at biomethane as part of its low carbon energy strategy. There are currently around 80 sites producing biomethane for injection into the grid, using sources including agricultural waste, human waste, and food waste.
The following chart shows the government’s targets through to 2040, based on three scenarios: 1) progress driven by consumer demand only, 2) progress assisted by a government programme which moves slowly, or 3) progress under a government programme achieving full potential.
A Major stumbling block is in valuing the biogas going into the grid. Calorific value can be less than 20 MJ/m3 compared with 25-45 MJ/m3 for natural gas from geological deposits. The solution so far has been to “top up” the biogas using propane. However, this materially impacts the “carbon neutral” appeal of biogas, and undermines the economics.
Solution: Future Billing Methodology
The gas industry and government departments have come together to devise a strategy called the Future Billing Methodology which will allow producers of biogas to be paid according to the calorific value of their gas rather than having to enrich it to meet a given standard.
Government whitepapers on the Future Billing Methodology are emphatically clear that timely and accurate analysis of the gas is a critical part of the project. The following links provide more detail:
GasPT has been certified by Ofgem for use within the Fair Billing framework. We believe that GasPT provides biogas suppliers with a more realistic solution than the more costly gas chromatography, and may represent the only realistic solution for the UK’s biogas plans.
Several other major opportunities exist for GasPT in the medium/near term:
SAMSON AG - Global
CUI Global announced on July 25, 2018 that it had signed an MoU with SAMSON AG to create a global distribution channel for GasPT. SAMSON is a German based process automation company, with a global customer base including countries such as China and Russia where CUI has previously had less reach.
ENGIE – France
CUI is awaiting an order for 1,000 GasPT units from ENGIE, the leading French gas pipeline operator. The GasPT has been down selected for this project, and the next step would be a firm purchase order.
Gas turbines – Global
A certification process is ongoing for GasPT to be used as part of the control system for a major gas turbine manufacturer. Gas turbines are the central technology in power plants producing electricity from natural gas, and each turbine unit can cost more than $10m. Combustion control is dependent on knowing the composition of the fuel gas, and can significantly impact the turbine’s performance and longevity.
Once GasPT is fully certified for this application, there is a big opportunity both on new power plants and as a retrofit.
The following chart shows the addressable markets for GasPT.
These figures represent annual spending on technologies such as gas chromatographs that can be substituted by GasPT.
In our revenue forecasts we have GasPT reaching $28.5m by 2020. We believe this represents a realistic level of capture of the addressable opportunity.
Ability to CUI Global to produce the required volume
We visited CUI’s facility at Orbital Gas Systems (wholly owned CUI subsidiary) in Stoke, UK. We believe that the facility is confident of being able to deliver 100 units per month in 2019, or 200 units with some capacity enhancements. This would equate to a production rate in 2019 which is already in line our own revenue forecast for GasPT in 2021. In other words, we believe that the Orbital facility expects to keep up with demand even if the ramp-up is ahead of our forecasts.
The Power & EM segment is a profitable business, and currently achieving growth. The following chart shows our revenue and EBITDA margin forecasts for this business.
We believe that the revenue growth achieved by the Power & EM business in 2017 results from cyclical restocking by the customer base, rather than structural demand growth. We believe this is likely to continue in 2019.
From 2019 onwards there is also a specialised product category which adds a more structural element to the growth of the Power & EM business.
Virtual Power Systems and ICE
CUI has an exclusive supply agreement with a company called Virtual Power Systems (VPS), to provide an intelligent energy management system called ICE (Intelligent Control of Energy) for data centres. VPS provides the software which controls the system, while CUI Global is the exclusive supplier of the core of the hardware.
The following charts show some cost breakdown for a typical data centre.
As these charts illustrate, power consumption is a very important variable in the economics of a data centre. Furthermore, data centres are very wasteful, drawing more power than is needed most of the time in order to avoid a blackout when IT load spikes.
The ICE system diverts excess electricity to lithium cells, which then provide additional power to cope with data spikes when they arise. We see the ICE product as a useful additional growth contributor for the group, although not on the scale of the GasPT product in Energy.
We next consider how the outlook for the business maps into financial forecasts. The following chart shows our forecast for CUI Global revenues and EBITDA.
We are forecasting an acceleration of revenue growth in 2019e driven by GasPT. The incremental revenue has a strong drop-through effect on EBITDA, driving positive EBITDA in 2019e.
The following chart gives a bit more detail on the mechanics of that EBITDA progression.
The key feature here is a significant uplift in gross profit for the Energy division in 2019e and 2020e, as we believe that GasPT is a higher gross margin product than the divisional average. With tight control of operating costs, the increase in overall gross profits has a strong impact on EBITDA in 2019e and 2020e.
Cashflow / Net debt outlook
We next consider the group’s financing position. We are forecasting U$4.5m of net debt at the end of 2018, which represents a manageable level in our view. From 2019, we are forecasting positive cash flow and an improving balance sheet position. The following chart shows the net debt bridge from 2018-19-20.
Based on these forecasts, we believe that CUI is able to fully finance the expansion of GasPT without needing to raise additional capital.
A further factor to note is that the company has acknowledged the possibility of a disposal of the Power & EM business at some point in future. If this went ahead then clearly our analysis of the net cash/debt position is superseded.
Finally we consider that our forecasts for revenue and earnings could mean in terms of the stock price. We frame this in terms of 2020 exit multiples for investors, as we believe this is a sensible timeframe to realise the early stages of the GasPT journey.
The table below shows the share price calculation on various 2020 EPS scenarios and P/E multiples.
values are not discounted back to 2018, i.e. these represent a stock price which would be realised some time during 2020 and based on a 2020 year end EPS. Nonetheless, we argue that that current stock price of $2.18 is implying either a) market expects EPS at the low end of our range or b) market is applying a low multiple.
The next table shows the same analysis based on EV/Sales multiples.
As with the P/E multiples, we argue that the current market price based on EV/Sales multiple is implying a downbeat scenario.
We conclude that progress on GasPT could give rise to substantial upside for the stock price.
The following tables summarise our financial forecasts for CUI Global.
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During 2018 Custodian was among the top 10 performing UK...
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