Shares of Autodesk (NASDAQ:ADSK) failed to gain ground in a bearish trading session on Thursday despite receiving an upgrade from analysts at Barclays.
Like many of its competitors, those are software-driven companies delivering solutions to a wide range of clients, Autodesk is in the middle of a shift in its business model. The company is shifting from licenses and upfront software packages and solutions to the ¨cloud¨ and subscription-based business models.
While I understand that current earnings and revenues are depressed by this change, I fail to see the upside even after accounting for the ¨understatement¨ of the current performance.
Barclays Turns Bullish
Analysts at Barclays raised their rating on Autodesk from equal-weight to overweight, attaching a $65 price target for the end of 2015.
The focus on the subscription model is limiting the company's GAAP growth numbers during this transition phase. Like many other companies including Adobe Systems (NASDAQ:ADBE) for instance, Autodesk is shifting to subscriptions over upfront software packages.
During the transition phase, and in the years following, Autodesk should be able to contribute to cash flows and be able to boost margins. The price target is based on a 12% compounded annual growth rate, operating margins of 30% and nearly $1 billion in free cash flows.
Autodesk's Overview And Plans
Back in March, Autodesk gave an investor webcast stressing the Building Information Modeling (BIM) solutions which focus on planning, designing, building and management of assets.
A continued increase in adoption of the BIM principle is expected to be the driver behind future anticipated revenue growth. Usage of these principles and software reduces risks for the wider construction sector, allowing for the optimization of design, among others. Opportunities are large with the construction sector in general still lagging in the adoption of IT spending.
While the BIM solutions are very attractive in the long run, Autodesk already has great diversification in its businesses. The company is operating in platform solutions, architecture, engineering & construction, manufacturing and media & entertainment. In terms of actual products, the company still derives 50% of sales from its flagship product.
Important to consider as I discussed the shift to the cloud, Autodesk's subscription revenues are close to making up 50% of total sales at the moment.
Back in May, Autodesk released its first quarter results. The company ended the quarter with nearly $2.4 billion in cash, equivalents and marketable securities. The company has nearly $750 million in debt outstanding, resulting in a solid net cash position of around $1.65 billion.
Trading around $55 per share, Autodesk is valued at about $12.65 billion which values operating assets around $11 billion. On a trailing basis, Autodesk has posted sales of $2.30 billion on which it net earned $202 million.
This values operating assets at 4.8 times trailing sales and roughly 55 times earnings.
Despite the solid earnings and strong financial position, Autodesk does not pay a dividend at the moment.
Looking At The Past
Autodesk is of course switching to subscription based models to appeal to customers, but also generate recurring revenues and highly predictable cash flows. Yet the shift from recognizing all upfront revenues compared to a monthly recognition, has slowed down reported revenue growth recently. This is a result of the GAAP accounting system, and to get a better clue about revenue growth one should consider watching the billings being reported.
As such sales have been flat between 2012 and 2014 around the $2.2 billion mark. At the same time deferred revenues have increased and are approaching a billion, as a result of the shift in the business model as discussed above. As such growth is still likely, with even understated and reported revenues having nearly doubled over the past decade.
Earnings have been stagnant at best, coming in at $202 million on a trailing basis, still far below reported earnings of around $350 million in 2008. Just like revenues, earnings are understated as well due the transition and reported numbers should be adjusted to account for this.
With exception of lows around $10-$15 during the financial crisis, shares have traded in a $25-$50 trading range over the past decade. Following returns of 60% over the past year, shares have advanced to current levels at $55 per share.
The operating margin target of 30% as issued by Barclays seems rather ambitious in my eyes, resulting in net earnings margins of 20% per annum assuming statutory tax rates. This would translate into revenues of about $500 million per annum based on anticipated growth in sales. Even then shares trade at 22 times operating assets based on these highly optimistic assumptions.
Back in May of this year I last had a look at Autodesk's prospects following the release of the first quarter results. I concluded that to get a true clue about the valuation of the business, one should look at the estimated performance of the business after the transition into the cloud has been completed. This is of course as the transition phase depresses current revenues.
While the transition to the cloud could result in higher operating margins as argued by many, I believe competition is heating up as well. Therefore I apply historical net profit margins of 10-15%. The cloud business model reduces distribution costs, but I anticipate that most of these gains will be made undone by competition. Even when applying net margins of 15% on a revenue base of $2.5 billion, earnings are seen around $375 million, or close to 30 times earnings.
The lack of dividends and lack of share repurchases in recent times is disappointing as well given the solid financial position. It is noteworthy that between 1989 and 2005, the company paid a quarterly dividend of $0.015 per quarter, yet it has halted those dividends. For this reason, the already high valuation and optimistic analysts, I remain cautious and stay on the sidelines.
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