Commentators have long complained the London Stock Exchange is dominated by old economy companies: banks, mining businesses, and oil giants.
The US, meanwhile, is home to The Magnificent Seven – Alphabet (GOOGL), Amazon.com (AMZN), Apple (AAPL), Meta Platforms (META) , Microsoft (MSFT), Nvidia (NVDA), and Tesla (TSLA) – whose stock market performance is already one of the most compelling investing stories of the decade.
However, London is home to a technology company Morningstar analysts are keeping their eye on. Narrow-Moat Endava (DAVA) provides cloud computing transformation, software engineering, technology consulting, and test automation services, and counts MasterCard (MA) and Arm Holdings (ARM) among its clients.
Endava has something in common with that latter company: both abandoned the idea of a London listing for a New York float.
Arm shares surged when the company floated on the Nasdaq last year, robbing the City of London of a £40.86 billion trading event. Endava listed on the New York Stock Exchange back in 2018. But while Arm is overvalued, according to Morningstar equity analysts, Endava is significantly discounted. Shares in the company are currently trading at $31.94 (£24.17), nearly a 49% discount from Morningstar's Fair Value Estimate of $62.
Although the company is focused on expanding revenue in North America, the UK dominates revenue generation at 40%, with continental Europe following at 20%. The IT company is now working to expand its sector base from financial services, tech, media and telecom industries to include clients in retail and health care.
Key Morningstar Metrics For Endava (DAVA)
• Morningstar Fair Value Estimate: $62.00
• Morningstar Rating: ★★★★★
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: High
• Discount to Fair Value: 49%
• Sector: Technology
Morningstar senior equity analyst Rob Hales says Endava is still heavily exposed to financial services.
"Within financial services, Endava is known for its expertise in payments and private equity," he wrote in a recent note.
"Like many of its peers, Endava's core strategy is to land and expand, which means securing big clients and growing revenue in those relationships by increasingly providing [them] with more services.
"Endava's 10 largest clients account for around a third of group revenue with the largest, MasterCard, contributing around 10%. MasterCard has been a client for over 20 years.
"[Its] delivery model is based on agile project management from employees in nearshore locations, which it plans to expand. To best serve its clients' unique digital transformation goals, the flexibility from the iterative nature of agile project management is effective."
Endava Shares Are Discounted And Unloved. Why?
Despite being a UK-based technology firm, the company is unpopular with top fund managers in London. Indeed, Morningstar data shows only two Morningstar-Rated UK-domiciled funds hold the company. The exposures vary.
The Bronze-Rated T. Rowe Price Future of Finance Equity fund and Neutral-Rated Aegon Sustainable Diversified Growth fund hold the business at 2.28% and 0.11% of their portfolios, respectively.
According to Michael Field, European equity market strategist at Morningstar, investors may be hesitant to take on the liquidity risk of owning Endava because of its small-cap status: it is worth only $1.3 billion.
"Morningstar sees a lot of value in the company – it's a five-star name," says Field.
"If you work on the business for a long time, you can make a lot of money out of it if it works out. But if you hold it and it goes wrong, investors could risk their reputations. Whereas, with a firm like Arm Holdings, if it does badly, practically half the market owns it."
By way of example, Endava's share price tanked on February 29 2024 when it released final quarter results for 2023. In a market announcement, it said it was behind on revenue targets by around £70 million. In the aftermath shares fell 57.81% to $37.07 from $63.65.
Its share price hasn't recovered.
Field says this is an example of how growth companies are highly sensitive to wider shifts in the economy.
"You have a situation where contracts can be lumpy for the business, if they do not arrive in time, it can be damaging for short term revenues," he says.
"If you also look at their exposure, the UK and Europe have not been high-growth areas and companies are pulling back on capital expenditure due to the unknowns in the economy."
Endava now expects its fiscal-year 2024 revenue to be between $978.5 million and $981.13 million.
"As we noted last quarter, amid serious doubts over the path of revenue recovery following their slashed outlook for the year, Endava needs several quarters of positive results to regain investor confidence," Hales writes.
Why is There a London Listing Drought?
Endava went public on the New York Stock Exchange on July 31 2018. The business is one of several names to ditch London for a US market seen as more hospitable to growing technology names.
Betting firm Flutter also ditched its primary London listing in favour of New York this year, while cyber security giant Darktrace, which floated in London 2021, also accepted a US private equity bid, taking it off of the LSE's books.
"There is an advantage to listing in the US because companies get access to a broader capital market," says Field.
"Companies usually get higher valuations when listing in the US. That trend has been promoted by Arm. But the disadvantage of being invested in the US if you are a UK technology company is that you are a relative unknown."
"Liquidity is going to be the number one issue. It is not that big, and it is a US-listed company. Those are the hurdles it is facing right away."
DAVA Bulls Say
• Endava specialises in digital transformation services, which is one of the fastest-growing areas in the IT services market
• The company's land-and-expand strategy is bearing fruit as evidenced by the increasing average spending of its top 10 clients
• Endava's expertise in payments should be transferable to clients in industries that need similar services such as retail, automotive, and healthcare providers
DAVA Bears Say
• High growth expectations for digital transformation services are attracting new competition from big and small players
• Endava has limited ability to increase margins given the low operating leverage in its business model
• Endava's revenue base is concentrated in the UK and continental Europe and in the financial services (particularly payments and private equity) and TMT industries
