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Research Note - Quarterhill Inc. (QTRH:TSX,$1.79|BUY $4.00 TARGET) Rehashing Our QTRH Thesis

We view the recent pullback in QTRH stock as a meaningful buying opportunity ahead of strong growth in the ITS business and the sale of WiLAN. We believe that at current prices, investors are receiving the ITS business for free. We are reiterating our BUY rating and $4.00/share target price based on a sum-of-the-parts analysis.

ITS has growing pains but the long-term opportunity is still intact.

ITS reported two disappointing quarters based on near-term growing pains regarding implementing its new contracts. However, management has reiterated that the EBITDA margin on these projects will reach 15% in the medium-term once the implementation phase is over. We are confident in this assumption given IRD’s financial success from 2020 and 2021; posting 21% 16% EBITDA margins respectively. The ITS business has signed $232M in new contracts over the LTM and we expect this segment to continue growing at 15%+ annually based on increased infrastructure spending. Management reiterated on the last conference call that ITS is increasing pricing for new deals, the sales pipeline remains robust, and win rates remain high. Management also has plans to generate $3M in cost savings from the IRD/ETC integration. We think that the near-term growing pains have provided a buying opportunity ahead of the margins scaling back to 2020/2021 levels over the next two years.

WiLAN sale will be worth the wait. While the WiLAN sale is taking longer than we originally expected, we are still confident in its intrinsic value being ~$2.00/share. WiLAN is coming off a monster year due to the Apple win, bringing its average annual EBITDA over the last five years to $32M and $35M over the last seven years. The range of potential takeout multiples is quite wide with licensing peers such as TiVo Corporation being sold for 15x normalized EBITDA and Finjan Holdings being sold for 5x normalized EBITDA; implying a range of $100M-$350M for WiLAN. Nevertheless, our expected WiLAN takeout valuation comes well above the current price of QTRH stock, implying that investors are getting WiLAN for a discount and ITS for free.

Large cash position. Quarterhill ended Q2/22 with $130M in cash and equivalents ($22M in net cash) after collecting its settlement from Apple and paying down $14M in long-term debt. This provides ample dry powder for tuck-in and bolt-on acquisitions. While the WiLAN sale has been in focus for the management team over the past nine months, we expect management to resume the M&A program shortly given the ballooning cash position.

Cheap on all metrics. Quarterhill currently trades at 6.8x 2023E EBITDA compared to its ITS peers at 8.4x EBITDA (close peer TransCore sold for 20x in October 2021) and its licensing peers at 7.9x EBITDA. We highlight that QTRH has the highest expected growth in our ITS peer group and as a result we believe it warrants a premium multiple. We value QTRH based on 13x 2023E ITS EBITDA and 10x WiLAN 2023E EBITDA. We are maintaining our BUY recommendation and our $4.00/share target price based on a sum-of-the-parts valuation.

20220912 - M Partners - QTRH - Thesis Rehash
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