Why I wouldn’t catch falling knife Telit Communications plc as its shares plummet 40%

High uncertainty has rightly led the market to fall out of love with former darling Telit Communications plc (LON: TCM).

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A few nasty surprises in its interim results were enough to send the share price of Internet of Things (IoT) device manufacturer Telit Communications (LSE: TCM) down around 40% this morning as analysts digested the poor figures.

There were few problems during the six months to June but the primary one was the delayed approval of a new LTE chipset by a large supplier for the US market. Management still expects this chipset to gain carrier certification this year but did admit that any further delays would continue to negatively impact cash flow and profitability.  

In H1 these delays caused previously double-digit sales growth to slow significantly to just 6.9% year-on-year (y/y). Slowing revenue growth dented margins too as the company had been ramping up its fixed operating costs. This, together with high acquisition integration costs and some discounting to keep customers happy due to the delayed certification, led to a pre-tax loss of $6.7m. This is a far cry from the $4.7m profit posted in the period a year ago and led management to cancel its interim dividend payout in order to conserve cash during this period of uncertainty.

This uncertainty led management to guide for adjusted EBITDA anywhere in the wide range of $47m-$60m for the full year, depending on when the chipset gains approval. Considering EBITDA last year was firmly in the middle of this range at $54.4m it’s still possible that the firm could salvage this year. But if profits come in at the low end of this range, I wouldn’t be surprised to see Telit’s share price sink even further if the chipset still hasn’t been certified in Q3.  

Over the long term, the market for IoT applications is astronomical. And Telit is still performing well, recently winning contracts from Tesla among other blue-chips. But as a relatively small player in the global hardware market, the company needs to grow quickly and gain scale, which delays of the kind encountered this year do not help. With high uncertainty over revenue and profitability for the year ahead I’d be wary of buying the shares at this point in time.

A more reliable option?

One small tech stock that is still growing at a rapid clip without major hiccups is independent game designer Frontier Developments (LSE: FDEV). The company’s share price has risen over 250% in the past year as its first game, space-themed Elite Dangerous, continued to perform well, its theme park builder, Planet Coaster, was launched to much fanfare and it secured a major strategic investment from Chinese game goliath Tencent.

For the year to May, these developments pushed the company’s sales up 75% y/y to £37.3m and operating profits more than quintupled to £7.2m. Looking ahead, the company’s sales will continue to be lumpy and revolve around new games being released. But the fact that it’s found success with its first franchises and Tencent saw enough promise to take a 10% stake bodes well for the future. The founder-led company is highly valued at 39.3 times forward earnings but with Elite Dangerous being rolled out on the PlayStation  4 this month and the possibility of expansion into the massive Chinese market, I see plenty of reasons to be bullish on Frontier.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be considered so you should consider taking independent financial advice.

Ian Pierce has no position in any shares mentioned. The Motley Fool UK owns shares of and has recommended Tesla. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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