RDM Corp results offer a glimmer of what could be

In early 2008, I slapped a sell rating on RDM Corp (RC.TO) with a $0.60 target. The company was being rocked by a stressed out and capital constrained client base (banks), a stuffed channel, and really poor visibility. Revenues were declining drastically as the client base stopped buying its various digital check scanners. The only thing that it had going for it at the time was about $17 million in cash, no debt, and a relatively minor payment processing business.

Last November and then again this previous March, the stock bounced against the $0.60 range as expected. Since then, there has been a fairly remarkable recovery for the share price where it has recently traded in the $1.20 range. There may be a legitimate reason for the move in share price.

RC reported $5.9 million in revenue for Q3 2009, a 13.4% improvement over previous year sales - although nice, this is not the story. Gross Margins for Q3 2009 increased to 42% from 34% the previous year, a 23% improvement, which should be considered very positive. The root cause of this substantial increase in GM is directly related to the success RDM Corp is experiencing as a payment processor. For q3 2009, payment processing revenue represented 42% of total revenue for the quarter versus the previous year where it represented only 33% of total sales. Why is this good? Payment processing generates close to 70% GM, whereas the device business delivers between 30% and 35% GM. In addition, payment processing is essentially 100% recurring revenue, which has helped to improve management's visibility on a growing percentage of its total revenue. Improving margins have helped the company to eek out a modest net income for the quarter of $0.175 million or $0.01 EPS. Right now the company executes 3.8 million transactions per day on its payment network, a 35% increase over the previous year. Revenue for the segment increased to $2.5 million or 48% over Q3 2009. Organic growth is expected to continue to be strong, so there may be a trend towards more profitable quarters coming.

Management must find away to better use its capital in order to accelerate a move towards payment processing, and to get out of the declining device gig. More payment processing begets more visibility, more earnings leverage, and more cash flow for shareholders.

Disclosure: I do not own shares of RC.