Recently Nextdc Ltd (ASX: NXT) have been investing heavily with an eye to long-term growth. Below, I take a look at the numbers and study the investment case for buying shares today.
Who Are Nextdc?
Nextdc is a data centre operator which has several locations throughout Australia. Founded by Bevan Slattery in 2010 the company has come along quickly and was named Deloitte as the fastest growing technology company in Australia in 2015.
Financial Results
Nextdc released their full-year results last week and the numbers make for interesting reading.
Revenue went up by 15% to $179.3 million whilst underlying earnings before interest, tax, depreciation and amortisation (EBITDA) was up 13% to $85.1 million. The following video explains EBITDA:
Operating cash flow also improved, jumping 18% to $39.4 million. Meanwhile, statutory net profit after tax (NPAT) came in at a loss of $9.8 million. On face value this appears quite disappointing however it masks the progress that is being made by management.
Nextdc is busily building new data centres to satisfy the rapidly increasing demand for data storage. This inevitably involves a large upfront financial investment whilst the future benefits that flow from it will only be received in later periods.
Once a data centre is built it takes a few years before any meaningful revenue is earned as the utilization rate improves. In the perfect case, Nextdc is able to raise the utilization of a centre up close to 100% whilst simultaneously raising the prices.
For example, in 2013, the company built a data centre in Sydney at a cost of about $300 million. This data centre now has a utilization rate of above 95% and generates more than $60 million in revenue. This gives you an idea as to the potential for huge growth if management can execute on their strategy.
The Risk Of High Growth Shares
Whilst high growth ASX shares can be extremely rewarding for shareholders that correctly time their emergence, we can often forget about the heightened risks of investing in such companies. The promise of huge growth is often paired with an overly optimistic share price.
It might not be rocket science but when caught up in the excitement of it all investors often forget a basic rule of investing and that is: the higher the price you pay the lower your return. That is not to try to persuade anyone from buying high growth shares but rather a cautionary warning, that any business, no matter how good, is a bad buy at the wrong price.
So What Are The Risks With Nextdc?
Nextdc’s growth potential is obvious to see but investors need to be cognisant of the fact that Nextdc operated at a loss in FY19 and is likely to require significant amounts of cash in order to deliver on its aggressive growth strategy of building more centres. The company is already burdened by a large amount of debt and will likely require further dilutive capital raisings to fund its growth initiatives.
Would I invest Now?
I won’t be buying shares in Nextdc at this time but I have placed it on my ever-growing watchlist. I will typically avoid shares of companies that have high levels of debt and even more so when it is a company that is not yet reliably profitable year after year.
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At the time of publishing, Luke has no financial interest in any companies mentioned.
