Suppose you are an engineer and you are trying to design a new product. You might begin by creating a prototype. Chances are there will be some problems with the prototype and it won't work as expected. You would fix these problems in the next version of the prototype and test it again. If the product is very complicated, it could take several iterations before you get everything right and the final version is ready to go to market.
This process can be extremely troublesome if the product includes electronic components. These components create electromagnetic waves that may interact with one another in undesirable ways. As a result, what looks great on a blueprint may end up being inoperable.
These days, instead of building prototypes, design engineers rely on simulation software. The software allows them to create the product in virtual form on a computer. More importantly, the software allows the engineers to test the product by simulating how it will actually work in the real world. For example, if the product in question is a cellphone, the software can simulate how all of the electromagnetic waves from the electronic components would interact with one another. If the product is a Ferrari race car, the software can simulate all of the forces the car would experience at various speeds.
Simulation software dramatically reduces the amount of time it takes to bring a product from concept to market and, as a result, it reduces the overall cost as well. Of course, the software must be reliable and error free, which is where ANSYS, Inc. (NASDAQ:ANSS) excels. The company specializes in creating and marketing high quality simulation software. ANSYS relies on a highly skilled workforce that includes engineers, physicists, chemists, and mathematicians. The company has grown tremendously ever since it was founded more than four decades ago.
ANSYS produces dozens of products that have a variety of technical applications. For example, engineers use the company's electronics simulation software to design robust and power-efficient integrated circuits, printed-circuit boards, communication infrastructures, and electromechanical systems. The company's computational fluid dynamics simulation software allows engineers to predict the impact of fluid flows on their products. HFSS software simulates three dimensional full-wave electromagnetic fields. This software is critical to engineers who are designing high-frequency and high-speed electronic components.
ANSYS makes significant investments in research and development in order to create and market advanced products demanded by various industries. In fact, R&D expenditures averaged 17% of revenues during the past three years (see 2013 Form 10-K pages 5 and 55). The company focuses on ongoing development and innovation of new technologies to increase productivity and to provide engineering simulation solutions that customers can integrate into their product lifecycle management systems. Product development efforts focus on extensions of the full product line with new functional modules, further integration with computer aided design (CAD), electronic CAD, and product lifecycle management. The company's products run on widely used engineering platforms and operating systems, including Windows, Linux, and UNIX workstations.
ANSYS distributes and supports its products through a global network of independent channel partners, as well as through its own direct sales force. Independent channel partners were responsible for about one quarter of total sales in each of the past three years (see 2013 Form 10-K pages 6, 26, and 30).
The company has been an active acquirer, which is why it also carries a relatively large amount of goodwill on its balance sheet. According to the company's latest Form 10-Q filing (page 3), goodwill and intangible assets amount to $1.5 billion. In comparison, stockholders' equity is $2.2 billion. In recent years, however, acquisitions have been relatively small (see 2013 Form 10-K page 9). The most recent acquisition closed on May 1 when ANSYS bought SpeedClaim Corp., a 3-D modeling software provider, for $85 million. ANSYS also acquired Reaction Design, a developer of chemistry simulation software in January for $19 million, and Esterel Technologies, a provider of embedded software simulation solutions, in August 2012 for $58 million. A much larger acquisition occurred in August 2011 when ANSYS purchased Apache Design for $314 million. Apache Design is a simulation software provider for advanced, low-power solutions for electronics.
ANSYS has a large number of customers; however, no single direct sales customer accounted for more than 5% of the company's total revenues in 2013. While ANSYS gets more revenues from U.S. customers than from any other region of the world, U.S. revenues amounted to just one-third of the total in 2013 (see 2013 Form 10-K page 78). Other important geographic markets include Japan (13%) and Germany (11%). All other European countries generated 23% of revenues, while other international markets generated 19% of revenues.
Looking toward the future, strategic acquisitions will remain a top priority for the company (see Q1 2014 Investor Presentation, page 20); however, management is also projecting double-digit organic revenue growth for 2014. This would imply accelerating growth as GAAP revenues were up 7.9% in 2013 and 8.9% during Q1 2014. On a non-GAAP basis, management is projecting revenues of $939-969 million for 2014 and earnings of $3.25-3.37 per share.
Of course, there are a number of investment risks to be concerned about. In particular, the company's business depends on the health of its customers' businesses as well as on the health of the overall global economy. While global economic conditions have improved slowly ever since the end of the financial crisis that began in 2008, there is always the possibility that economies could slip back into recession and reverse the gains made in recent periods.
Furthermore, because approximately two-thirds of the company's revenues are generated abroad, ANSYS is exposed to all kinds of international risks, including unfavorable political climates and unfavorable movements in foreign exchange rates.
In addition, the company operates in an industry characterized by rapidly changing technologies and new product introductions. While ANSYS develops industry-leading software, competitors might come out with new products that could make the company's products obsolete. And while the company is very careful about quality control, there is always the possibility that its highly technical and sophisticated software could contain coding errors or flaws, resulting in returns and loss of sales.
Using traditional price multiples, it is hard to argue that the shares are cheap. In fact, the stock has quadrupled in price since its 2009 low. Still, the shares are not unreasonably priced for a high-growth company. Furthermore, management is likely to support the stock price with share repurchases. In fact, management repurchased 1.5 million shares of common stock in 2013 at an average price of $77.73 per share. That's on top of the 1.5 million shares it repurchased in 2012 at an average price of $63.65 per share. The board of directors recently replenished the company's share repurchase plan to three million shares of common stock and management stated its commitment to buy back more shares this calendar year.
Undoubtedly, a growing number of businesses will come to rely on simulation software to help them develop all kinds of new and innovative products. This is especially true for companies that are working in highly technical fields that involve complicated electronics, or products that have to interact with the forces produced by fluids or winds. Because ANSYS is one of the leading companies in the simulation software industry, it is well-positioned to capture a significant share of this growing market. The company already has more than 40,000 customers all over the world, including virtually all of the top 100 industrial companies in the Fortune 500; yet there is still plenty of room to grow.
Disclosure: I am long ANSS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: ANSS is included in the portfolios I manage at Greenwich Wealth Management, LLC.