NAPCO Security Technologies looks attractive as it carves niche in school security market

“Thoughts and prayers” has become too common a reaction to the massive increase in school incidents over the past decade. The massive increase in shootings and rise in total casualties over the past five years has become alarming.

While the sentiment of “thoughts and prayers” is well-meaning, some companies are taking a proactive approach to address this growing crisis in the United States. NAPCO Security Technologies (NASDAQ:NSSC) is one of those companies.

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NAPCO describes itself as a leading provider and manufacturer of high technology electronic security, school safety lock down systems, IoT (Internet of Things) connected home, video, fire alarm, access control and door locking systems.

The company operates in four divisions:

• NAPCO
• Marks USA
• Continental Instruments; and
• Alarm Lock.

NAPCO’s business is split 50% residential and 50% commercial, while the remaining three divisions are 100% commercial resulting in a product mix 80% commercial and 20% residential.

NAPCO offers products and services in the connected home market, intrusion alarms, and commercial fire. Alarm Lock produces wireless lock networking. Marks USA offers wireless access control and mechanical lock security solutions. Continental Instruments sells enterprise access and security management solutions, wireless locks, access, alarms, communication, and video. Many of these products are protected through one of the two dozen patents (issued and pending) NAPCO holds.

This wide array of product mix gives NAPCO the unique position of being the only company in the highly competitive security industry with products across all three security verticals. It is that fierce competition that makes growth difficult to come by for many securities, with long-term success reserved for a few.

These products are sold through a wide network of 10,000 dealers, integrators, and distributions through a B2B business model.

NAPCO’s approach separates it from the pack not just because of the vertical product line, but also the hybrid nature of its revenue.

Many security products companies focus on selling hardware and upgrades. While NAPCO does this as well, they have also pivoted to include products with recurring revenue through software and subscriptions.

The pivot to as Software-as-a-Service (SaaS) business model has spurred solid top line growth.

The challenge with a hardware-only revenue model is that business can be lumpy and uneven. SaaS, on the other hand, creates a reliable, consistent, and predictable stream of income, one that Wall Street will pay for.

Despite its small market cap of just under $400 million, NAPCO has attracted institution holders including Wasatch Advisors, Kennedy Capital, Teton Advisors, Ranger Investment Management, and Alexander Capital. Additionally, senior management have aligned their interest with shareholders, as reflected in its 38% ownership of shares.

Recently, the company reported record second-quarter sales of $24.8 million, an 18% increase from the prior year. The annualized recurring revenue run rate for the company now stands at $17.2 million as it continues to climb nearly 50%. And while investors should find this trend attractive, the financial performance of the hardware product line has been equally impressive.

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NAPCO increased gross margins in this most recent quarter from 40.9% to 43%, with hardware being the main driver. The Dominican Republic production facility has enabled the company to increase hardware margins from 33.6% to 36.2% sequentially.

Much of the demand has emulated from school safety projects, an area quickly developing into a niche sector for NAPCO. Recently, 26 states passed legislation totaling $1 billion for school security and that’s only the tip of the iceberg for the potential market. In the United States alone, there are more than 10,000 colleges and universities along with almost 100,000 public schools. Add in the roughly 37,000 private schools, and the school security market has the potential for 150,000 high dollar projects.

NAPCO offers a School Access-control Vulnerability Index study and audit system to help schools implement a high-level action plan. Integrating their line of unique education-focused security solutions, NAPCO has found a home in this potentially huge market.

Less than three weeks ago, the company announced its products will be used in the Austin Independent School District (AISD) corporate officers to protect and secure 140,000 square feet over nine stories. This comes as additional to the already 125 schools in the district using NAPCO products and services to protect 84,000 students. If this business trend of landing (one school or one corporate office) and expanding (dozens of schools in the same district) continues, NAPCO’s current growth outlook may be conservative.

This thesis may be the driving reason behind the Board of Director’s recent approval of a 500,000 share buyback. It also doesn’t hurt that the company also holds almost $8 million in cash against no debt and is profitable on the bottom line.

Despite the highly competitive nature of the security industry, NAPCO is carving out a niche in the school security market and just might offer some portfolio security for investors seeking a small-cap, aggressive stock with tremendous upside potential.

–At the time of publication, Tim Collins had no positions in the stocks mentioned.

Follow Tim Collins on Twitter @RetroWallSt

Story by ProactiveInvestors