|Shares Out. (in M):||226||P/E||70.53||na|
|Market Cap (in $M):||10,383||P/FCF||na||na|
|Net Debt (in $M):||904||EBIT||236||-140|
(Note that ADSK’s fiscal year 2016 ends on Jan 31, 2016)
1. Autodesk is a high quality growing recurring-revenue software business at a compelling valuation because of complicated financials, investor fatigue, and a go-to-market strategy transformation.
2. My 1-year price target is $59 or a 25% upside from today’s price based on a 25x multiple of FY20 free cash flows (given the high quality of the business and its teens revenue growth) discounted to a year from today. Furthermore, there is the potential for significantly higher returns if an activist comes and reduces opex/repurchases shares.
3. Annualized Recurring Revenue (ARR) should grow through FY2020 at a 24% CAGR, driven by
a. 3% Annualized Revenue per subscription driven by CPI price increases and transition to higher value subscriptions (EBA, cloud, desktop) which are 26% more expensive than just maintenance costs ($691 vs. $548)
b. 20% Subscriptions CAGR from 2.6m at the end of FY16 to 5.4m at the end of FY20 driven by
i. Conversion of existing customers
1. $1bn of historical perpetual license revenue will become EBA, Desktop subscription, or cloud subscription. This translates to 400-600k subscriptions per year.
ii. 30% conversion of 2.8m active non-paying subscribers
iii. Additional customers from organic growth and as lower priced software appeals to a larger audience.
1. Although lifetime values are higher for ADSK, lower upfront subscription costs drive increases in subscriptions counts.
2. Lower piracy and mobile access to cloud also improves subscription counts.
4. At the end of the transitions, at the beginning of FY20, forward margins will be 22%, FCF per share will be $2.93 (net of SBC), and the stock will trade at $74 or an 21% IRR from today. The stock will trade at a 25x forward cash flow multiple because there will be additional upside in operating margins (after-SBC) (projected to increase 1000 bps from 16% in FY2020 to 26% in FY 2022) and the company has a teens-level growth rate.
Reason for the opportunity:
1. Short-term investors may not like that the company’s financials will look worse in FY 2017 than FY 2016:
a. As a result of the transition from high-initial cost perpetual sales to lower-initial cost subscription sales, revenues will decline in FY17 and operating leverage will make earnings go negative next year.
b. Additionally, billings, which is a metric investors monitor closely, will also decline (because of the same dynamics as the revenue decrease)
2. In its Q2 earnings Autodesk reduced guidance as a result of a faster transition and weakness in some verticals which caused the stock to trade down
3. The stock has gotten hurt with the market as a lot of hedge-fund owned names were sold down.
Autodesk serves customers in the architecture, engineering, construction, manufacturing, digital media, consumer, and entertainment industries. It allows users to do Computer-aided design (CAD) of digital prototypes and is critical in many companies’ workflow. It sells its products through its four segments:
1. Architecture, Engineering, and Construction (“AEC”) -- 35% of net revenue last fiscal year
2. Platform Solutions and Emerging Business (“PSEB”) – 32% of revenues last fiscal year
3. Manufacturing (“MFG”) – 27% of revenues last fiscal year
4. Media & Entertainment (“M&E”) – 6% of revenues last year
Autodesk will stop the sale of perpetual licenses and begin moving all its customers over to three “New Model” subscription models: EBA (Enterprise Business Agreements), Cloud, and Desktop. It will completely stop selling perpetual licenses in Q3-FY 17.
1. New Model will surpass Maintenance in both ARR and Subs by FY18
2. Nearly all of product sales after Q2 FY 17 will be Desktop, Cloud, and EBA subscriptions.
Autodesk has three types of customers: Enterprise, SMBs, and Very Small Businesses (VSBs):
1. Enterprise: Autodesk is converting these customers with dedicated consulting, adoption, and support teams who have deep engagements with their customers.
2. SMB: The Company is converting these through specialized partners and resellers. In Q2 FY 16, 21% of new seats sold by VARs were subscription seats. Partners sell 58% of desktop subscriptions.
3. VSB: ADSK is converting these customer through low-touch and self-serve channels. 39% of new seats by Volume Channel Partners were Desktop Subscriptions, and 87% on the eStore were subscriptions.
There are multiple indicators that customers are adapting the subscription model:
1. LT Family: In Q2 FY16, for the LT family suite, ARR increased 35% with a 7% ARPS Growth and a 27% growth in number of subscriptions yoy. 40% of non-subscribers are LT.
2. Since Q2-FY15, 22 of the largest customers moved from Maintenance to Token-Flex resulting in a 90% overall increase in enterprise ARR yoy.
3. AutoCAD: if just 20% of AutoCAD non-subscribers were converted, the AutoCAD business would show 45% ARR growth and 21% Subscription growth.
Below are the company’s subscription growth numbers which indicate management’s success in migrating their clients over:
|Total Subscriptions (thousands)||Q1-FY15||Q2-FY15||Q3-FY15||Q4-FY15||Q1-FY16||Q2-FY16|
|q/q Incremental Maintenance Subs||45||94||37||45||12|
|New model subs||102||130||158||220||270||319|
|q/q Incremental New Model Subs||28||28||62||50||49|
|Acquired New Model Subs||-||-||25||17||-||-|
|q/q Incremental New Model Subs ex-acqs||28||3||45||50||49|
Other companies that have made the decision to transition to subscription have outperformed the S&P 500 by an average of 90% (cumulative) including Adobe, Intuit, and Cadence under new management.
1. A typical 50 seat account shows a 1.25-1.5x increase in ARR moving from Network Maintenance to Multi-User subscription
2. A typical 5 seat account shows a 1.5-2x increase in ARR moving from Maintenance to Single-User subscription
Subscriptions cost 30-40% the amount of a perpetual license but the perpetual license pays 15-20% per year as maintenance.
Calculated Upside Sources:
1. Revenue normalization once a majority of revenue comes from subscriptions.
2. Margin expansion from channel shift. In FY15 about 15% of sales were direct and by FY20 ~25% of sales will be direct resulting in a margin uplift. Also S&M expenses should decrease as an increasing percentage of the company’s revenues become recurring.
Over-time, management projected the margins will increase as follows:
|Fiscal Year Guidance Midpoint||2016||2017||2018||2019||2020||2021||2022|
|GAAP Operating Margin||-2%||-27%||-13%||5%||13%||20%||23%|
|Amortization of purchased intangibles||3%||5%||4%||3%||3%||3%||3%|
|Non-GAAP operating margin||10%||-11%||1%||16%||24%||30%||32%|
|Enright Operating Margin||2%||-22%||-9%||8%||16%||23%||26%|
Further Upside Sources:
1. Activist involvement is likely because
a. Underperformed major indices: over the past 5 years, ADSK has returned 50%, vs. 100% for the Nasdaq and 73% for the S&P 500. Over the last 1 year, the stock is down 17% while the S&P is up in the low single digits and the Nasdaq is up
b. Company is famously spendthrifty with some of the nicest offices in San Francisco and repeated misses on opex by management.
c. Room to repurchase shares which its shareholders are urging it to do.
2. Autodesk Cloud creates a much larger TAM ($25b) for Autodesk in the following areas:
i. $3.2b opportunity based on 3m+ subscribers.
ii. Cloud opens up this opportunity because previously only the largest customers could afford advanced simulation and the associated hardware but now with a cloud model many more customers can afford to use simulation software on a pay per use model.
b. PLM (Product Lifecycle Management): $4bn opportunity based on 10m+ subscribers
c. Advanced Manufacturing: $3.6b opportunity with 1m+ subscribers
i. $6b opportunity with 100m+ subscribers.
ii. Construction is an attractive market as a result of being able to serve more customers on a construction site with mobile devices, and the construction industries’ increasing technological embrace. The industry needs better materials management, schedule management, and productivity.
iii. ADSK is targeting this market with its BIM 360 tool.
e. IoT (Internet of Things)
i. $6B opportunity with 10m+ subscribers
ii. Growing IoT ecosystem results in more opportunity for ADSK to build the CAD tools for it
f. Design and Engineering
i. $5.7B opportunity with 4m+ subscribers
g. Overall, 86% of Fusion 360 (product design) customers are new to ADSK. The same percentages for HSM Works, PLM 360, BIM 360 and Infraworks 360 were 57%, 46%, 8%, and 8%. These statistics show that the company is still growing in a healthy way.
3. Shift to cloud eliminates piracy because it is significantly harder to pirate cloud software
4. Company finds a way to deploy offshore cash accretively given the board is currently discussing this
KPIs to watch:
1. Annual Recurring Revenue
2. Opex should grow 5-6% annually as management spends on developing their cloud offering
3. Billings (although those will be volatile because of the business model transition)
1. Management mis-execution and lack of expense discipline
2. The company is unable to convert enough
3. The TAM is smaller than the subscriber counts described above
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.
Execution on business model transformation execution, financials become easier to read once the transformation is complete
|Subject||Re: why the poor ratings?|
|Entry||10/13/2015 07:14 AM|
25% upside based on a 25x multiple four years out...doesn't seem like anything that even approaches the definition of "value".
I understand that the business may be higher quality than average, but using a 25x multiple on fiscal 2020 earnings, I'd be looking for a whole lot more upside. A lot can go wrong in four years...
|Entry||10/13/2015 03:36 PM|
Thanks for the idea Enright; would appreciate your views on the following questions (I apologize for the length, but as you pointed out, this is a complicated transition):
o Your assumptions seem to be the same as management’s assumptions they laid out on their analyst day on 9/29/15
§ What gives you confidence that these assumptions are sufficiently conservative / achievable given ADSK has missed / pushed back / guided-down their LT targets for the last ~decade?
o This is a long thesis predicated on a FY’2020 / CY’2019 outlook for a software business tied to the macro
§ What are your assumptions around the macro?
§ What do you think happens to churn rates / earnings power under this new model if the macro takes a negative turn and how does that impact the FY’2020 outlook? i.e. what’s the downside?
· For example, you point out how the token-flex model resulted in a 90% increase in overall enterprise ARR yoy (great stat although not sure what to make of the sample set), but the flipside of a token-flex model is that it’s very easy to flex down as well… this fundamentally brings into question ADSK’s concept of Annualized ‘Recurring’ Revenue
o In the ‘Business Transition’ section you lay out some attractive business model benefits of moving to subscription, most of which are statistics based on 1 or 2 quarter’s worth of data where ADSK added ~50k-100k subs; the FY’2020 seems to extrapolate what they’ve seen over a small sample set of subscribers to 2.8m subscribers
§ Have you pressed mgmt. on how conservative / aggressive those assumptions are?
§ Which assumptions are conservative / have room for upside vs. aggressive in what you’ve laid out?
o You mention that $1b of historical perpetual license revenue will become EBA, desktop subscription, or cloud subscription and how that translates to 400-600k subs per year
§ Taking the midpoint of your assumption, it implies an annual ASP of $2k per sub vs. your calculated $691 in bullet 3.a à why is it so much higher?
§ A significant mix of subscriptions in FY’2020 will come from the LT family of products (~35% from <5% per analyst day slides), which come at a severely lower ASP given the nature of those subscribers; how is that incorporated into your implied $2k per sub math?
o If management truly believed in the new long term guidance they laid out, why haven’t they announced an ASR or done a levered recap?
§ If it’s general management incompetence, then why do you believe in the LT guidance they laid out given their history of missing these targets?
o Lastly, if an activist were to get involved, seems like they’d have to run a proxy fight given the board and management composition / tenure
§ When are the next board elections and when are you expecting to see a 13D filing?
§ Why would an activist go through the trouble for 25% upside on aggressive LT numbers / multiples, not to mention underwriting the macro risk?