Analysis of US Stock IPOs | Can a R&D team of only 6 people drive high performance growth? Is SoWell's success due to luck or strength?

After submitting the public version of the prospectus (F-1 document) to the SEC for the first time on May 10th, machine vision product and solution provider Sowell updated the prospectus twice on September 4th and October 8th, respectively, continuing to drive the company's journey to go public in the United States.

According to the prospectus, Sowell applied to list on the Nasdaq under the code "LHSW" and plans to raise up to $12 million, but the number of shares to be issued and the price range have not been disclosed yet. However, in the latest version of the prospectus submitted on October 8th, Sowell updated its performance, further solidifying the company's confidence in going public.

Data shows that Sowell's revenue for the fiscal years 2022 (12 months ending March 31), 2023, and 2024 were $0.9493 million, $13.0706 million, and $36.5987 million, respectively, showing a significant growth trend. The net profits for the same periods were -$0.3911 million, $1.61 million, and $2.8178 million, showing continuous growth after turning losses around.

How did Sowell achieve such high-speed growth in performance? With this impressive performance, can Sowell achieve a high valuation in the U.S. stock market and drive up its stock price? By analyzing the company's prospectus, we can find the answers.

Despite high growth, gross profit margin continues to decline, and cash flow is tight

Since its establishment in 2007, Sowell has been deeply involved in the field of machine vision for seventeen years, accumulating core technologies such as image information collection, analysis, processing and recognition, AI behavior recognition, machine vision industrial automation, license plate recognition systems, facial recognition, and video analysis.

With diversified technical capabilities, Sowell can provide customers with four major product categories: industrial machine vision, artificial intelligence (facial recognition and AI behavior analysis), electronic customs clearance, and intelligent transportation. Solutions made from these products can cover multiple scenarios such as smart industry, intelligent transportation, government institutions, ports, and smart communities.

Partial product display of Sowell (sourced from the company's official website)

In the prospectus, Sowell stated that the company seizes market dynamics to innovate continuously, introducing new technologies and products to meet market demands. In 2023, Sowell successfully developed a nine-axis linked painting robot, which is a vehicle painting robot composed of the robot body, computer, and corresponding control system, capable of automatically painting the vehicle body.

In terms of revenue structure, Sowell's revenue mainly comes from three parts: electronic products, software sales, and engineering projects. By the fiscal year 2024, the revenue proportions of electronic products, software, and engineering were 86%, 14%, and 0%, respectively. Electronic products account for the majority of revenue, while the 0% share of engineering projects in the year is due to project collaborations being project-based, and there were no new projects during the period From a performance perspective, in the 2022 fiscal year, Sowell's revenue was less than $1 million, mainly due to the forced interruption of business operations by the epidemic, which also resulted in a low performance base. Starting from the 2023 fiscal year, with the elimination of the epidemic's impact and the gradual recovery of the economy and commerce, market demand has increased. In addition, Sowell has increased its marketing efforts to expand the market, leading to a significant increase in revenue in the fiscal years 2023 and 2024.

In particular, the 2024 fiscal year is particularly remarkable, with a 195% increase in revenue from electronic products, a 211% increase in revenue from software products, and a total revenue increase of 180% driven by the joint efforts of the two major businesses. This resulted in a 75% increase in net profit to $2.8178 million during the period.

However, it is worth noting that while revenue continues to increase significantly, Sowell's gross profit margin has been continuously declining. The gross profit margins for the fiscal years 2022 to 2024 were 50%, 26%, and 24% respectively. Sowell stated that the decline in gross profit margin is due to the continuous increase in the proportion of revenue from electronic products with relatively low gross profit margins. Due to the decline in gross profit margin and the increase in the proportion of total operating expenses, Sowell's net profit margin in the 2024 fiscal year decreased to 8%, a decrease of 4 percentage points compared to the 2023 fiscal year. This is also the main reason why the growth rate of net profit is much lower than the revenue growth rate.

Looking at the balance sheet, Sowell's debt-to-asset ratio in the 2024 fiscal year was 58.97%, which is at a reasonable level. However, the company's cash and cash equivalents during the period were only $206,200, indicating a relatively tight operating capital and weak risk resistance. In the fiscal years 2023 and 2024, Sowell's net cash flow from operating activities was negative, with outflows of $1.9042 million and $1.4292 million respectively, further exacerbating the tightness of the company's cash flow. This may also be one of the important reasons why Sowell is considering entering the capital market.

Industry Opportunities and Multiple Potential Challenges Coexist

In fact, Sowell's sustained high growth since the 2022 fiscal year is directly related to the rapid development of the industry. According to a Moore report, the vigorous development of China's logistics warehousing and emerging new energy industries has stimulated the increase in production demand for related companies, leading to a significant increase in demand for visual inspection products. From 2021 to 2023, the revenue growth rates of the machine vision market were 46.79%, 22.23%, and 33.57% respectively, with significant fluctuations but overall maintaining high growth.

Moore predicts that the revenue growth rates of China's machine vision market in 2024 and 2025 will be 25.31% and 23.49% respectively, continuing to grow rapidly. By 2025, the market size is expected to reach 34.9 billion yuan, with the 2D vision market expected to exceed 29.2 billion yuan and the 3D vision market expected to exceed 5.8 billion yuan. It can be confirmed that the rapid growth of the industry will benefit Sowell.

However, Sowell faces numerous potential operational challenges. Firstly, the industry faces intense competition. According to the Moore report, a considerable number of Chinese machine vision companies are concentrated in the Pearl River Delta and Yangtze River Delta regions, with Guangdong and Jiangsu being prominent centers. By the end of 2022, Guangdong had as many as 2,837 machine vision companies, while Jiangsu had 736, indicating intense competition in the industry, with well-known listed companies such as Hikvision and Lingyun Optics. If industry competition intensifies, Sowell's business operations will be affected, and the company's profitability may continue to decline.

It is worth noting that machine vision is a high-tech, high R&D, and highly competitive industry. If the R&D strength is not strong enough, it may not be conducive to the company's competitiveness and sustainable development in the long run. Sowell stated in its prospectus that its R&D team consists of only 6 members and needs to be strengthened. In the fiscal years 2023 and 2024, Sowell's R&D expenditure accounted for 4% and 6% respectively, which is relatively low compared to industry standards. For example, Hikvision, with its large scale, had an R&D expenditure ratio of 12.75% in 2023.

Secondly, Sowell has a relatively high customer concentration. According to the prospectus, in the 2023 fiscal year, the revenue from Sowell's top five customers accounted for a total of 66.8%. By the 2024 fiscal year, this figure had decreased to 50.3%, but it still remains at a relatively high level of concentration. Comparing the customer base between the 2023 and 2024 fiscal years, three customers have either been lost or their demand significantly reduced, not making it to the top rankings. If major customers are lost in the future and Sowell fails to develop new customers in a timely manner as a supplement, the company's business expansion will be affected.

In addition, Sowell's accounts receivable ratio is too high. Why is Sowell's cash still tight and operating cash flow still negative despite high revenue and net profit growth? One key reason is the company's excessively high accounts receivable, which are not being collected quickly enough to support the company's operations.

In the 2023 fiscal year, Sowell's net accounts receivable amounted to 7.5911 million US dollars, accounting for a high proportion of 84.69% of current assets. By the 2024 fiscal year, Sowell's net accounts receivable amounted to 13.273 million US dollars, accounting for a high proportion of 85.77% of current assets, indicating that the accounts receivable ratio remains unacceptably high High accounts receivable have several adverse effects. Firstly, it hinders the quick return of funds, leading to tight cash flow and restricting rapid expansion of the company. Secondly, high accounts receivable can result in an increase in bad debt ratio. Thirdly, high accounts receivable indicate that the company's bargaining power in the industry chain is relatively weak. In a fiercely competitive market, some companies may enhance their competitiveness by extending the collection period of accounts receivable, which is not a healthy competitive state and is detrimental to the company's long-term development.

Overall, during the dividend period of rapid industry development, SoWell has achieved continuous growth in its performance, which has significantly boosted the company's fundamentals. However, while benefiting from industry opportunities, SoWell also faces challenges such as intensifying competition, high customer concentration, and a high proportion of accounts receivable. It is a clear case of opportunities and risks coexisting. Whether SoWell can pave a "broad road" for itself in the future remains uncertain