Why you should buy Dye & Durham today

Written by Puja Tayal of The Motley Fool Canada

Paint and Durham (TSX:DND) fell 27% in the past two months to $12.31 after activist investors Engine and Blacksheep wrote a letter to shareholders complaining about the tech company’s acquisitions and debt refinancing. Dye & Durham disputed Engine’s arguments, stating that there were factual errors. However, this entire episode caught the attention of shareholders and caused the company’s stock to fall.

Technology stocks launched their initial public offering (IPO) in the 2020 tech bubble. The latest third-quarter earnings showed moderate revenue growth of 3% year-over-year. The December and March quarters are seasonally weak for the company.

What went wrong with Dye & Durham?

Dye & Durham provides practice management and analytics software for legal and finance professionals. The Unity platform helps lawyers manage their workflow. The company performed well in 2020. It developed through acquisitions and organic growth. However, the company became too aggressive, tried to grow faster and made costly acquisitions. It has been at a standstill since the tech crash of 2022.

While interest rates were rising, DND was willing to borrow to acquire Link Group in Australia. After 10 months of wrangling, Link finally canceled the acquisition in December 2022. If that alone wasn’t enough, TM Group’s next major acquisition failed. DND acquired TM Group but was later forced by the regulator to sell it due to competition concerns. The company sold the TM Group in August 2023.

The failure of these two costly acquisitions left DND with a significant $1 billion in debt and increased financing costs to $131.9 million (12% of debt). In the absence of these financing costs, the software company would report profits.

Dye & Durham’s bulls

Dye & Durham’s business is stable and profitable, with an adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) margin of 54%. The company’s strategic goal for the next three years (fiscal 2024-2027 ended in June 2027) focuses on three things:

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• Reduce your real estate income to less than 33%

• Increase your annual share of recurring, contracted revenue to over 50% of your revenue

• Build adjusted EBITDA of $1 billion

For a software company, contractual revenues make cash flow predictable. If this revenue is recurring every year, long-term revenue is high. In the third quarter of fiscal 2024, DND increased its contractual recurring revenue to 30% from 19% a year ago. It also reduced its exposure to real estate to 43% from 50%, suggesting it is diversifying its industries.

As for its $1 billion adjusted EBITDA target, Engine said such a target encourages acquisitions while pushing shareholder returns into the background. DND responded to Engine’s letter, identifying some factual errors in it. Nevertheless, the thrill of reaching the $1 billion EBITDA target led Dye & Durham to pursue acquisitions of Link and TM Group.

These acquisitions have made DND cautious about its growth. Instead of aggressive acquisitions, it prioritizes deleveraging and organic growth. Even if it doesn’t achieve its medium-term goal, the solution will be sustainable growth and streamlined operations. This may affect the DND share price in the long run.

Dye & Durham Bears

Although Dye & Durham has a profitable software platform, its biggest challenge is high debt and rising financial costs. It refinanced $905 million in debt, pushing the deadlines further. Active investors are not satisfied with the way the company’s debt is restructured and proposed the replacement of three directors at the extraordinary shareholders’ meeting in August 2024. Net debt is 4.9 times adjusted EBITDA, which it aims to reduce to four.

Any interest rate cuts could result in double-digit gains in DND stock as it could increase interest savings from debt restructuring. Once the company emerges from its debt crisis, there may be a lasting increase in its stock price.

Investor takeaway

Although DND’s stock is falling due to failed acquisitions and significant debt, the company is not out of business. Its business is growing organically at a steady pace. A revival in the real estate sector could turn its high exposure into an opportunity. These are shares you can buy and hold for a period of time as the company learns and recovers.

The post 27% Down, But It’s Not Over: Why You Should Buy Dye & Durham Today appeared first on The Motley Fool Canada.

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The Motley Fool covers and recommends Dye & Durham. The Motley Fool has a disclosure policy. Stupid author Puja Tayal has no position in any of the companies mentioned.

2024