The UK technology sector is at a crucial juncture, with recent developments painting a mixed but ultimately encouraging picture. Richard Jeans, our technology analyst, has released a sector report examining the outlook for the UK tech sector and the trends shaping its future. In this episode of Hardman Talks, he breaks down the key findings from the report, covering trading performance, market dynamics and the fundamental drivers of growth in the sector.
At the beginning of 2024, sentiment around the UK technology sector was notably downbeat, influenced by economic uncertainty, changes in the Autumn Budget, and ongoing geopolitical risks. However, January’s trading updates surprised on the upside, offering a much-needed boost to investor confidence.
Our analysis of 104 UK tech-related stocks, predominantly small caps, revealed that around a third of these companies raised their forward earnings expectations, compared with just one in nine that revised them downward. This improvement in outlook suggests that businesses are navigating macroeconomic challenges better than expected.
Several companies stood out with particularly strong performance. Microlise, a provider of transport management software, overcame the impact of a recent cyber incident to deliver earnings ahead of expectations. Eleco, which supplies software solutions for the construction sector, reported trading ahead of market forecasts despite economic headwinds. Luceco, a supplier of wiring accessories and LED lighting, also delivered results above expectations, benefiting from strong demand in the final quarter of 2023. The positive momentum extended into early February, with Made Tech, Pinewood, and Elixirr also reporting encouraging updates.
One of the most striking findings from the report is the ongoing contraction in the UK tech sector’s listed equity market. Since the pandemic, 21 notable buyouts have removed approximately £46 billion in market capitalisation, while just 28 new tech and tech-related companies have listed on the LSE, collectively valued at around £10 billion. This represents a significant net loss in the number of publicly traded tech firms.
The decline in listings raises concerns about investor access to high-growth UK technology businesses. However, the sector remains a vital part of the broader economy, with businesses continuing to drive innovation and digital transformation.
Two major forces continue to propel the UK technology sector forward: digital transformation and artificial intelligence. The digital transformation trend, accelerated by the pandemic, remains a priority for businesses looking to modernise operations and improve efficiency. Meanwhile, AI has gained significant traction following the widespread adoption of tools like ChatGPT, fueling demand for AI-driven solutions across industries. These trends provide strong structural support for tech companies, despite broader economic volatility.
The UK tech sector experienced a significant rally in 2020-21 as markets were buoyed by liquidity and investment enthusiasm. However, inflation and rising interest rates in 2021-22 triggered a sharp downturn, restricting access to equity capital and contributing to company delistings. More recently, as interest rates have stabilised, capital markets have started reopening, enabling companies to secure funding once again. This shift suggests that the remaining companies in the sector may emerge stronger from the turbulence of recent years.
Compared to their US counterparts, UK tech companies currently trade at relatively attractive valuations. Among small-cap software and services firms, our analysis indicates that the average EV/revenue multiple is 1.5x in FY1, decreasing to 1.3x in FY3. Similarly, EV/EBITDA multiples fall from 9x to 7x over the same period, reflecting an expected 8.3% compound revenue growth and a 240bp improvement in EBITDA margins.
These valuation levels suggest that the UK tech sector could present significant opportunities for investors, particularly given the sector’s strong business fundamentals and ongoing innovation. Watch the interview to find out more about the tech sector’s outlook.
