RBC's Lumine & Topicus Coverage: A Review
Valuation, Growth, Market Size, and Investment Returns
On March 28, 2025, RBC Dominion Securities Inc. released their equity research initiation reports on both Lumine and Topicus with their price targets and we thought it would be worth going through this with our subscribers. We’ll highlight the following:
Our Differentiated View.
Near-Term Growth Expectations.
ROIIC in relation to Other Software Consolidators.
Capital Deployed on Acquisitions Forecast.
Historic Organic Growth & Forward Expectations.
Margin Development & FCF Conversion.
Total Addressable Markets.
Valuation & Price Target Methodology
In a market with limited analyst coverage, RBC's reports were a valuable contribution. However, our assessment of Topicus/Lumine's business model from a quantitative perspective differs significantly, as we believe their analysis underestimates its long-term strength and quality. After discussing our variant perception below, the remainder of this piece will be a summary of their write ups.
Our Differentiated View
Our analysis diverges from RBC's primarily in the valuation and price target methodologies employed, rather than the ultimate price targets themselves. We wish to address the following key points from RBC's reports:
The projected proportion of acquisition capital relative to cumulative free cash flow over the next decade.
The utilization of EBITDA versus FCFA2S.
Terminal Exit Multiple Assumptions.
The Use of an M&A model versus a DCF Approach
Acquisition Capital Expectations
Our primary disagreement lies with RBC's estimates for acquisition capital deployment as a percentage of cumulative free cash flow over the next decade. RBC projects $2.5 billion for both Lumine and Topicus.com, representing 47% and 36% of cumulative free cash flow, respectively. We consider these estimates excessively conservative, hindering long-term value creation. Our analysis anticipates both companies reinvesting 80-100% of cumulative free cash flow at their target hurdle rates.
TSS serves as a compelling precedent for Topicus.com's potential. Under CSI's guidance, TSS not only significantly increased its M&A activity but also achieved substantial margin expansion. There's no indication that Topicus.com, now operating independently, will deviate from this successful trajectory. Notably, as a CSI operating group, TSS experienced near 20% annual revenue growth and saw EBITDA margins climb from 18% in 2013 to 27% by 2015, driven by an accelerated pace of acquisitions.
Despite CSI's increasingly limited segment reporting, it's evident that their European operations have outpaced their overall growth. This observation further supports the idea that Topicus has the potential, and should aim, to achieve a higher growth rate than CSI's core business over time.
Although a detailed comparison of legacy Topicus and TSS isn't our primary focus, it's important to acknowledge Topicus's historically stronger organic growth. Consequently, we anticipate Topicus.com, due to this inherent mix, will outpace both legacy TSS and CSI in growth. Additionally, we foresee margin expansion for Topicus.
Topicus's strategic focus contrasts sharply with CSI and TSS, allocating significantly less capital to M&A and six times more to organic growth. While this results in lower EBITDA margins (9% vs. 30% for TSS), adjusting for R&D and sales/marketing as growth capital reveals comparable spending to TSS for similar revenue gains. This suggests Topicus' organic growth investments are remarkably efficient.
Information from a Tegus transcript supports that TSS has historically been CSI's most acquisitive segment. We expect this acquisition pace to continue at a far higher pace than RBC forecasted.
We acknowledge in RBC's defense that they did provide projections of a 30-40% CAGR for Lumine's free cash flow per share, which exceeds their 27% CAGR forecast in their C$50.00 price target DCF, indicating significant upside if Lumine deploys more capital. Even a 75% reinvestment rate would yield a 24-31% free cash flow per share CAGR.
For Topicus, they provided a similar caveat to cover their basis where they stated that assuming hurdle rates in the low to high 20% range and 100% free cash flow reinvestment into acquisitions, they project Topicus.com's free cash flow per share could increase at a 28-38% CAGR over the next decade. This significantly exceeds their 15% CAGR forecast in the C$170.00 price target DCF. Even with 75% free cash flow reinvestment, they estimate a 21-29% free cash flow per share CAGR.
Overall, we have to assume they are purposely being conservative to allow room for price target upgrades in the future.
EBITDA versus FCFA2S
RBC, like many firms, prefers EV/EBITDA for software company valuations. We believe this is primarily due to the significant share-based compensation expense and varying debt levels within the sector. While we understand this approach, we advocate for aligning with management's perspective, which emphasizes FCFA2S and its multiples for long-term business evaluation.
We believe a valuation approach aligned with management's reporting in the MD&A is most effective. For example, Topicus's MD&A presentation, which excludes non-controlling interests and utilizes basic share count for FCFA2S calculations (while using fully diluted shares for enterprise value), provides a clear framework. This methodology reveals Topicus's current run-rate of approximately €3.40 FCFA2S per share, translating to over $5 CAD per share before the Asseco deal's impact. We project this to reach ~$7 CAD FCFA2S per share by 2026. Ultimately, we believe current market assumptions regarding M&A are overly conservative, resulting in a valuation of 30x P/E and 27-28x FCF on 2026 estimates for a company consistently generating 20%+ ROICs. Although Lumine is currently slightly more expensive using the same approach, we think another acquisition or two of significance makes this name look reasonable as well.
Terminal Exit Multiple Assumptions
RBC's reports apply exit multiples of 26x EV/EBITDA for Lumine and 25x EV/EBITDA for Topicus, justifying Lumine's premium based on its higher ROIC and adjusted EBITDA margins. However, the relative importance of these factors compared to Topicus's superior organic revenue growth is debatable, particularly in these early stages. RBC's analysis suggests that without acquisitions, Lumine's intrinsic value is $22 per share (a 50% drop in valuation), and Topicus's is $115 per share, primarily due to Topicus's sustainable 4-5% annual organic growth driving a stronger terminal value. While we maintain a bullish outlook on both companies, our 8% higher cost basis in Topicus reflects its higher organic growth rates and perceived greater M&A target availability within its total addressable market and we think that means it deserves a higher terminal exit multiple.
The Use of an M&A model versus a DCF Approach
The last point we’d like to highlight is around the valuation approach for the Constellation family of companies. Although there is nothing wrong with doing a three statement model (income statement, balance sheet and cash flow forecast), and finalizing this with a supporting DCF model, we don’t think you actually need to do that for these names to arrive at an estimate how much you expect FCF per share to compound over time.
Take Lumine for example, even though we did add a DCF model in our investment memo linked below, our M&A model is the basis of our expectation around FCF/share growth.
An M&A model necessitates the following key variables:
FCFA2S, given their minimal reliance on debt for acquisitions.
The percentage of FCFA2S reinvested into M&A.
Return on Invested Capital (ROIC) from M&A activities.
Organic growth rate.
FCFA2S can be directly sourced from the company's quarterly Management's Discussion and Analysis (MD&A), allowing for projections based on anticipated growth. As previously stated, we estimate an 80-100% reinvestment rate of FCFA2S into M&A for both companies over the next decade. The ROIC on M&A, as demonstrated in our Topicus example, can be similarly applied to Lumine.
Lastly, we project organic growth of 4-5% for Topicus and 1-2% for Lumine. Combining these variables allows for a scenario analysis across varying FCFA2S reinvestment rates, yielding estimates of free cash flow per share growth.
Unlock our complete content library with a paid subscription! For just $0.55 a day with our annual plan, you'll get access to everything listed below, plus future content.
