Much anticipated high margin license revenue expected to commence in Q4/15; catalyst to re-rate stock higher. Espial has secured three important contract wins with cable providers, with total over 7 mln subscribers. We believe the company could be on the cusp of break through license revenue generation with customers Tele Columbus and widely speculated customer Rogers. ESP contract wins equate to ~$70 mln 90% gross margin license revenue and ~$11-13 mln/yr annual recurring maintenance revenue at ~55% gross margin after deployment. We expect EBITDA margin expansion to 30%+ range from existing <20% range as existing contracts are deployed. ESP trades ~9x 2016 EV/EBITDA vs. main competitor SeaChange at ~14x. ESP is engaged in deep discussions with six potential customers, which could lead to additional contract wins.
Contract deployment pace could drive significant 2016 upside. We believe some ESP customers could pre-purchase software licenses in blocks and activate licenses as new set top boxes are deployed in the field. We believe the street is not yet considering this upside driver, which could suggest 2016 expectations could be conservative for revenue (MRCC ~$33 mln, consensus ~$38 mln) and EBITDA (MRCC ~$11 mln, consensus ~$10 mln). If Tele Columbus (ESP’s largest potential customer) deploys as intensively in Germany as Comcast (an important pioneer of next gen Set Top Boxes – STBs) does in the US (adjusted for subscriber base), our 2016 roll-out could have an additional 400K subs or $0.50-0.60/sh value (conservatively attaching opex to incremental gross profit
Potential for transformative partnerships and take-out. Cisco, recently introduced the “Infinite” Suite of Cloud video solutions. Cisco’s Home solution features a “thin” client for user experience. We believe ESP could potentially partner with Cisco and may have already taken some initial steps in this regard, which could be a major positive catalyst for ESP stock. We note Cisco divested its STB unit in July to Technicolor for US$600 mln in cash and stock and is focusing on software and cloud centric solutions. As the STB industry evolves to place more emphasis on STB software vs. hardware, large STB makers such as Cisco, Samsung, Arris could acquire Espial in order to offset hardware headwinds.
Espial develops software for STBs, multiscreen clients (video consumed on televisions, mobile phones, tablets and computers), TV delivery back-office solutions for pay TV operators and Smart TV (i.e. TVs that are connected to the internet) manufacturers. Espial stock offers an opportunity to invest in pay TV’s response to the growing OTT (Over The Top i.e. internet delivered) TV threat via a highmargin software play, which provides highly visible recurring revenue.