One of the leading providers of computer-aided design software, Autodesk (ADSK) announced October 8, 2013, that it would acquire some of the technology assets of Graitec including its Advance Steel and Advance Concrete product lines. The acquisition, when completed in 2014, would help Autodesk to develop model-based workflow for structural engineers, detailers, fabricators and contractors. It is expected that with the help of this acquisition, Autodesk will be a frontrunner in the industry and will migrate toward high-tech building information modeling (BIM). It is not only the acquisition that has made a strong case for Autodesk since the company has already put into motion efforts to improve its overall efficiency. Let us perform an in-depth analysis of the company's financial strategies.
Improved Business Model
Autodesk has grown its revenues since the recession by convincing customers to switch to a subscription-based model of its Auto Cad software. Through this software, customers can have access to automatic updates and the installation of new features in exchange for a recurring fee, which takes effect after one month of usage. If customers stop paying the monthly subscription they lose access to the program.
The monthly subscriptions represent 22% of Autodesk's customers and they also account for almost 50 percent of its revenues. Recently, certain steps have been taken to attract more customers to the subscription-based model. For example, Autodesk has included rental and usage based pricing options. The company is altering its business strategy to address customer needs and to compete with other software providers. The importance of the rental-based customers for Autodesk has been noted by its C.E.O who said "A customer that comes and joins as a renter is much more valuable over a number of years."
The move will also allow Autodesk to attract customers who are less willing to pay a lump sum amount for access to the software. It will also be a cost-effective solution for architects, designers and engineers to use Autodesk software with no up-front costs.
Autodesk is determined to increase billings by 12 percent per annum up to 2018, as the company expects to sell more software subscriptions. In addition to the increase in billings, Autodesk also expects that the number of subscribers will grow. The company currently has 1.9 million subscribers, and that number is expected to increase by 50 percent by 2018. Autodesk will increase service charges while also anticipating an increase in the number of subscribers.
Historical Pricing and Recent Results
The company has treated long-term investors to profitable returns but the most recent returns have not been very impressive. The share prices have rallied from $10 in 2003, to as high as $50 in 2007. However, in 2009 the price dropped down to $12 mainly due to financial crises. In the post-financial crises period prices have recovered and the current price is $40 per share.
Autodesk released the recent quarter results on August 22, 2013. It reported an E.P.S of $0.45 for the quarter, which exceeded the analyst estimate of $0.42 by $0.03. The company declared revenues to be $562 million whereas the consensus estimate of analysts was $560.07 million. The difference of $2 million was mainly due to an improvised business model through which Autodesk managed to bring in new customers.
Despite the company besting analyst estimates Autodesk witnessed weakened sales in European, Middle East and African countries. In 2012 the company's international revenues accounted for 72% of its revenues but in 2013 international revenues represented almost 71% of total revenues. The decline was primarily offset by the growth in the revenues of company from the American region as that increased by 2 percent. As the company's business has expanded globally, it has increasingly become subject to risk arising from fluctuations in currency and also to the adverse changes in political and economic conditions.
The company operates in four primary segments: platform solutions, architecture, engineering and construction, manufacturing, and media and entertainment. The operating segments for architecture accounted for 37% of the share in net revenues, engineering and construction accounted for 30%, manufacturing accounted for 25% and media and entertainment accounted for 8%. Out of the four segments, architecture has been the most successful. The segment contributes 37% in the net revenues and has grown by 9% from last year.
Dividend Based Valuation
In the free cash flow model presented above, I have assumed that the company will grow its operating cash flow at an average growth rate of 21.18 percent per annum. The growth rate assumption is primarily due to an additional increase in revenues backed by the positive impact of the improvised business model. Another factor I considered while estimating the growth is the expected increase in the number of new subscribers.
For the Capex growth rate, I used the company's historical average growth rate of 21.30 percent. I believe that in the long run the Capex will not likely resume the current growth rate as there is no mention of such by the company. However, the historical averages have been used to maintain accuracy.
As can be seen in the above table, the price of $45.15 per share seems to be an appropriate intrinsic value of Autodesk stock. The upside potential of more than 11 percent signifies that the company is a potential investment.
The table above shows the core assumptions and important inputs used to calculate the weighted average cost of capital (GM:WACC) of 17.45%. I have assigned 88 percent weight to equity primarily because the company is operating with minimal debt. Moreover, out of the total debt of $1216 million; $746million was taken by the company during fiscal year 2013.
The average return of S&P for five years is taken as Rm. While the risk free rate of 2.63% is the 10-year Treasury note's rate. An adjusted beta of 1.73 is calculated with the belief that in the long run the company's beta of 2.09 will revert back to the market beta.
The sensitivity analysis expresses the price in relation to the long-term growth rate and WACC. In the best-case scenario, assuming a growth rate of 3.5% and cost of capital of 15.45%, the stock price would be trading near $54.29. In the worst-case scenario the share price would be around $35.01. The scenarios give us a price range of $35-$54 with a downward potential of -13.28% and an upward potential of 34.47%.
Multiple based Valuation
In order to compute the fair value I have chosen multiple based valuation. It can be seen in the figure above that I have given 35 percent weight to both P/E and P/Cash Flow. The weights can be amended according to their relevance but this is a matter of one's discretion and judgment.
The multiple based approach calculates the fair price with an upside potential of 10.44 percent from the current market price and makes the target around $47. Comparable valuation also gives us a fair value, which is in line with the fair value estimates given by the dividend discount model.
Autodesk transformed its business model into selling monthly licenses instead of only offering contracts with upfront payments. This strategy will allow Autodesk to report higher revenue in the quarters to come.
Although the acquisition of Graitic was good for company it will take considerable time for the company to start seeing financial gain from these expectations. I believe that Autodesk will be able to perform well in the near future.