It could be said that disruptive telecoms and IT supplier Synety (SNTY:AIM) tried to run before it could walk and is now paying the price for chasing rapid revenue growth at too high a cost.

The Leicester-based firm has developed a clever cloud-based communications platform called CloudCall. It integrates a streamlined calls function with a client’s customer relationship management software (CRM) and/or ERP system (enterprise resource planning), allowing one-click synchronised calls data and recording.

The CloudCall system is a perfect fit for many SMEs since monthly costs run at about £25 a month per user, while it also helps meet compliance regulations and streamlines customer service and can be integrated into many of the leading cloud-based CRM and ERP systems, including Sage (SGE), Salesforce (CRM:NDQ), Microsoft (MSFT:NDQ) and Netsuite (N:NYSE).

A start-up business, created by the reverse take-over of AIM-quoted shell company Zenergy in September 2012, Synety’s strategy has been centred on high growth through rapid customer acquisition with particular emphasis on building annualised recurring revenues (ARR).

It had been doing pretty well (see chart), posting rapid growth in key performance indicators (KPIs) through 2013 and 2014. Revenues for those two years soared 588% and 196% respectively, albeit from virtually nothing in 2012 (just £8,000 reported). ARR was reported to have jumped 247% to break through the £3 million mark, and according to the company, was on a run rate of £3.46 million as of end February 2015.

Scale in the balance

The big challenge was to scale revenue from its cloud-based communications software quickly enough to cover both its operating costs and provide the cash flow fuel to fund further growth. That’s a tall order for any early stage company, and Synety has faced plenty of sceptics.

‘At the time of the full year results (18 March) we were very concerned about the flight path of this poster-child for the first generation of SaaS providers; worried that the confidence of management was not well-grounded,’ explains Peter Roe, analyst at respected business technology website TechMarketViews. ‘Synety had previously been hell-bent on growing revenue and was building a cost base and sales resources to match,’ says Roe, and this was driving mounting losses and cash outflow with, in our view, no end in sight.’

Prophetic words, as it turned out. With the stock market growing tired of supporting loss-making start-ups, Synety investors spoke out, but perhaps most surprising, and welcome, management listened and then did something about it.

A little more than a month ago (28 April) Synety sent shockwaves through its legion of private investor fans by turning its strategic game plan on its head, switching-off its landgrab strategy in order to speed-up a breakthrough into the black. This about turn comes after a fundraising fiasco that shot investor confidence in the company and its management to pieces.

With the shares standing at around 140p in March, having come back from 2015 highs of just over 200p, Synety discovered that it needed some extra funding, nothing too dramatic, about £2 million was what it was after for day-to-day expenses and other working capital. It should have had no problems, a few carefully placed calls around the City by its nomad N+1 Singer, but management was in for a shock. Investors, even previously supportive ones, had lost their appetite for repeat cash call story stocks and the whole episode unwound into a fundraising fiasco. Urgent talks followed and Synety finally raised £2.8 million before costs, but only at a deeply discounted 90p per share. Cue the inevitable share price collapse, from which it is still to recover. The stock is currently trading at 90.5p.

‘We have revised our forecasts to reflect both a longer period before new sales hires become effective, and the stabilisation of the lag between a customer sign-up and go-live,’ said N+1 Singer analysts at the time. ‘The higher operating cost base means we expect breakeven in the fourth quarter 2016, based on the £2.8 million raised from the firm placing.’

This is a seismic shift for the company and the bottom line is that now, with enough cash to do it, Synety simply must show a profits breakthrough towards the end of next year come hell or high water. Fortunately for those investors that have remained supportive, or new ones looking for fresh opportunities perhaps, the underlying operating performance points positively, not least thanks to strong momentum in the company’s UK backyard, but also in the nascent, and potentially massive, US market.

(Click on chart to enlarge)

Hope springs

Both the UK and the US operations showed strong growth throughout 2014, and momentum has increased into 2015. Not only are new customers coming online, but existing customers are both growing their user base and spending more with Synety. ‘The group has added 300 customers and over 3,500 end users since the capital raise in 2014 (first announced 21 March), contributing an additional £1.5 million of annualised recurring revenue which will convert into revenue in the coming year,’ says N+1 Singer’s Pia Tapley.

(Click on chart to enlarge)

Existing customers can contribute more to the annualised recurring revenue base by either adding users or by upgrading their subscriptions to higher value products. They can also reduce their contribution by terminating their contract completely, by reducing the number of CloudCall users they have, or by downgrading their subscription to a cheaper alternative.

Currently, the existing user base is growing its contribution to the annualised recurring revenue base on a net basis. More users are growing, rolling out CloudCall to more of their workforce or subscribing for additional features, than are lost. ‘This is a highly positive dynamic, suggesting that account management is vital within Synety,’ states Singer’s Tapley.

According to the analyst, full year 2014 and the most recent KPIs have now been absorbed into 2015 and 2016 estimates, with several important assumptions factored in. ‘We have allowed longer for salespeople to become effective, and assumed that the process of onboarding new customers takes two months throughout our forecast period, in both the US and the UK.’

However, offsetting these negatives is a firm belief that productivity improvements in the existing sales force can come through, both as the product gains more recognition and functionality add-ons, and as the sales team becomes better at selling it. ‘We have also increased our full year 2015 operating expenditure (opex) forecasts to reflect the faster than expected increase in run-rate during 2014,’ says Tapley.

Whether this slower growth/faster profits strategy will work only time will tell but make no mistake, despite recent upheaval Synety remains an inventive little company. With plenty of long-term growth potential, the shares are an interesting speculative option.