Arcontech (ARC): Interim Sales [Cue Tumbleweed]

Arcontech’s interim report wasn’t well received by the market earlier this week. Revenue increased by 4.7% but not enough to prevent the share price falling by almost 15%. New chairman Geoff Wicks highlighted the difficult sales environment:

“The prevailing market conditions have meant that the sales cycle is taking much longer than in normal times.

The outlook for the rest of the year also sounded pretty gloomy:

“We expect conditions in the second half of the year to remain challenging. It seems unlikely that our sales team will have greater access to customers until at least the end of the year”

The unsatisfactory length of the sales cycle and a lack of sales to new customers are not new themes for Arcontech. Pretty much all of their annual reports of the last several years contain some variant along the same lines. Here’s a few recent examples:

Year Quote From Annual Report
2020 “sales to new customers in the year have not been what we had hoped due to extending sales cycles…”
2019 - “The length of the sales cycle continues to be longer than we would like”
- “sales to new customers have not been significant during the year”
- “[prospects] need to be tempered by the traditionally long and complex sales cycles”
2018 “The length of the sales cycle has been longer than we would like”

The reality for Arcontech is that sales to new clients do not (and have never) come along very often. Right now they are even harder to come by because of potential clients delaying purchasing decisions. But I think that Arcontech’s prospects might be more positive than those rather downbeat quotes might suggest. Arcontech’s sales cycles are long primarily for two reasons:

  1. Arcontech is offering its potential clients alternative (software) solutions (for publishing and receiving real time market data) to those that they will already have in place (for example from data providers such as Bloomberg or Refinitiv). In order to win a new client Arcontech typically has to displace an incumbent vendor who is likely to have an existing multi-year contract in place for their services.
  2. Arcontech’s potential customers (typically large financial institutions) move slowly. Purchase decisions involve multiple departments and they usually require extended evaluation periods before a purchase agreement can be made.

It’s a frustratingly long and difficult sales process. But….when a new client win happens:

  • Arcontech’s products have the potential to become very embedded. That long and complex sales cycle now starts to work in their favour protecting their products from the rival vendors that they have worked so hard to displace.
  • It opens up an internal marketplace where it is much easier to sell more products without going through that whole long sales process again. Arcontech essentially sells end user licenses for its software products. A single new client can open up opportunities to sell many more end user licences within their organisation.

The infrequency of new clients means that Arcontech tends to increase its revenues predominantly by taking advantage of the two bullet points outlined above to sell more into their existing clients. This has enabled the company to achieve fairly modest revenue growth of around 7% over the last few years. Importantly though, Arcontech also has a very stable cost base that provides the operational gearing for that revenue growth to have a much greater impact on profits:

Arcontech Operational Gearing

And profit growing faster than revenue has resulted in steadily increasing profit margins:

Arcontech Operating Margin

Current sales conditions might be even more challenging than normal for Arcontech but I don’t think that anything in the interim report has fundamentally changed the longer term outlook.

New client wins will continue to be infrequent in the near term due to the length of the sales cycle. The recent expansion of their (very small) sales team has though added the potential to initiate more sales processes and increase the frequency of future client wins. The intricate and drawn out nature of the sales process means however that this is unlikely to have an immediate material impact on revenue.

In the meantime any new client wins are worth paying attention to as they could potentially be very significant for Arcontech. On that point the 2018 Annual report noted that Arcontech currently had trials running at 6 potential new clients (did I mention the long sales process?).

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Hi MIA1,

Many thanks for the write-up.

Not sure this is entirely the case. From what I can tell, ARC produces ‘middleware’ – software that connects data feeds from Bloomberg etc to the clients own systems, and/or passes the client’s own data back to Bloomberg etc. CityVision – Real Time Market Data Platform

ARC middleware

The incumbent as such is probably the client’s own IT department. Buyers of ARC’s software are likely to have cobbled together a makeshift middleware solution – but now want professional assistance.

Sales demand may well be driven by clients wanting to manipulate third-party data beyond the functionality of the third-party service. The danger perhaps is Bloomberg deciding to implement that particular functionality and clients no longer needing their own system or ARC’s middleware.

I wonder if the protracted deliberations are due to potential clients thinking they are still happy maintaining their own in-house middleware. Looking at the text from ARC’s 2020 results…

“With regard to development, we rolled out our RESTful interface which has been performing as expected. This will significantly increase the available data for consumption for our current and future clients by enabling content in JSON and SQL formats to be pulled into our software from the web or intranets to use in spreadsheets, templates and charts.”

…I do not get the impression ARC is supplying anything revolutionary here (the development mentioned appears to be taking website data and converting it into common file/database formats). I am sure large financial institutions have large IT departments that could do the same development, with the benefit to the client of not paying ARC a margin and probably having greater flexibility for undertaking future changes.

Looking at ARC’s client examples (Client Engagement Examples – Arcontech | Real Time Market Data Solutions), the work performed seems very much bespoke to the associated organisation. That perhaps is another reason why the sales cycle is so protracted – there simply may not be that much bespoke middleware work around.

Revenue from the largest client was £659k for 2020 and £585k for 2015 – a CAGR of just 2.4%. Assuming this is the same client, then selling extra services (at least to this client!) still appears quite difficult.

Yes, the headline accounting appears attractive, and the operational gearing is what attracted Leon Boros (4% ARC shareholder) to the share the other year. He talks about ARC at 35mins in the video below, and gives his sales/profit projections for 2020-2025:

I looked at ARC around the time the video was published and felt the company was uninvestable because of its aggressive interpretation of IFRS 15. Essentially ARC decided to recognise all licence revenue immediately rather than spread recognition evenly over the licence term. The new FD has since implemented IFRS 15 correctly, but the restated figures show 2019 operating profit was originally inflated by 14% by the aggressive interpretation. The current chief exec signed off those 2019 accounts, but at least ARC has appointed new auditors!

Maynard

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Hi Maynard,

True, Arcontech’s software does provide interoperability between data platforms such as Bloomberg and the client’s own systems. But the potential data sources and destinations are more generic than that (illustrated by the grey boxes in the system diagram in your previous post) and that opens up more possibilities. Arcontech’s system essentially boils down to the simpler diagram reproduced from their website below. Data can be taken from multiple sources, aggregated, transformed, and sent on to multiple destinations:

mvc-diagram-ie

One scenario in which a vendor such as Bloomberg/Refinitv etc can be displaced is where the client is both a publisher and subscriber of the same market data (this scenario is highlighted by Leon Boros in the talk that you referenced). In this case the client might be generating market data, publishing it to, say, Bloomberg and then paying Bloomberg to provide the reformatted data back to them. Arcontech’s system could provide the same functionality at a much lower cost without the need for additional 3rd parties like Bloomberg.

There may be an element of this, but the issue of 3rd party incumbents with existing contracts was explicitly highlighted by the CEO in the 2016 annual report:

What does continue to affect revenues, however, is the length of the sales cycle. This is largely attributable to the fact that our traditional offerings invariably need to displace an incumbent for which the existing contract terms can affect our prospects.

These are most likely rival MVCS (middleware) vendors.

That is probably true. I’m sure though that there are many different businesses with software development capabilities that ask the question ‘could we do it ourselves?’ before deciding to purchase 3rd party software. The next question they probably ask is ‘should we do it ourselves?’ For Arcontech’s clients it probably depends on how much of Arcontech’s functionality they want/need. I suspect that Arcontech’s products have now been developed to the point where it is more cost effective for their clients to buy the software rather than build and maintain it themselves.

Agreed.

Here’s the revenue growth from available data for the top 4 clients over the last few years for comparison:

Customer Revenue Contribution CAGR Period Covered
1 22% 2.4% 5yrs
2 18% 11.2% 4yrs
3 13% 6.3% 3yrs
4 10% 77.0% 2yrs

I thought this was an unusual move considering their previous accounts had been recognising license revenue over time, as per the correct implementation of IFRS 15. As you say though, it was corrected in the next set of accounts (and I have forgiven them :slightly_smiling_face:).

Earnings were also enhanced due to the release of accruals in the 2019 and 2020 accounts. Just for reference the operational gearing chart in my previous post uses restated figures for 2019 (i.e with the correct implementation of IFRS 15) and also uses adjusted figures to remove the earnings enhancement from the release of accruals.

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Hi MIA1,

Many thanks for the reply.

Yes, I noted this scenario from Leon but, to get rid of the Bloomberg, it means the client had purchased a Bloomberg purely to receive its own reformatted data instead of reformatting itself – which I find very odd. Otherwise a Bloomberg would still be needed to receive the other data, and I don’t think there would be any cost saving. I am having trouble seeing the displacement angle here.

I just get the impression that revenue growth of late has been modest, at least once ARC has received the initial full-year contribution from any new large customer. For the top 3, combined growth for 2020 was 1%, a 2% CAGR for 2019-2020 and a 7% CAGR for 2018-2020. Management comments in the interims suggest the business is dependent on ‘normal’ times resuming to restart growth, which follows on from the repeated remarks about protracted sales cycles. Not ideal!

Maynard

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Hi Maynard,

Leon expands on this idea a bit further when he discusses Arcontech’s Desktop product (at about 28mins) in this more recent video:

He suggests that clients can build their own custom Bloomberg or Refinitiv style systems by going to the providers of the market data that they need to use and plugging their data feeds directly into Arcontech’s software.

This model probably has limited scope, but there are use cases, and at least one client appears to be actively engaged in using Arcontech’s software to build this type of system. This should result in a ramp up of users of the Desktop product as the new system is rolled out.

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Hi MIA1,

Thanks for the video link. I guess that service is similar to what SharePad and Stockopedia do – aggregate data from different suppliers into one platform. I still maintain this type of service is not particularly ground-breaking and is something in-house IT departments could do at any reasonably sized financial institution.

Leon refers to in-house IT departments and them wanting to ‘internalise’ developments. I worked in IT throughout the 90s and my experience at my employers of using external developers was not great. Far too much in-house time was spent liaising with external developers to get things working, and just going in-house from at the start would have been much quicker. Project specifications never stay still and it was always easier for the project manager to get his mate downstairs in IT (i.e. me) to alter a few lines of code than raise a formal change request to the external supplier with the extra £££ that involved!

Maynard

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