Description

Overview

Aptitude Software Group plc (APTD) is a UK provider of accounting software applications to customers globally.  2022 Annual Recurring Revenue was £52m, with a 102% net revenue retention rate.  Over the past five years, ARR has grown organically at 15% annually.  Cash flow from operations less capital expenditure has averaged £11m, despite an elevated level of R&D spend in 2021 and 2022.   

Current valuation is stock price £2.75 stock price, 58.1 million diluted shares, £160 million market cap, £145 million EV after deducting £15m of net cash.  For the five years from 2024 through 2028, I expect cash flow from operations less capital expenditure to exceed £70m, or roughly cover half of the current enterprise value.  The company is unlikely to make acquisitions and I expect cash to be returned to shareholders.

Financial overview

Brief corporate history

Aptitude’s core product, Accounting Hub, began as a solution to reconcile the complex ledger entries of the NatWest derivatives trading operation in the late 90s.  In 2002, this business, known as OST, was acquired by Microgen plc, which, led by investor and former head of Dell EMEA Martyn Ratcliffe, saw itself as a consolidator of small UK IT companies.  The 2008 scheme VERBS, or Value Enhancement and Realisation Bonus Scheme, saw the slow breakup of Microgen, with all business units except Aptitude sold to private equity over the following ten years.  Because of its growth opportunities, management decided to continue to invest in Aptitude and Microgen was renamed accordingly in 2019.  Ratcliffe sold his shareholding and exited the board as his focus had been managing slower growing businesses.

Product description and ARR split

Aptitude Accounting Hub (AAH), the company’s largest product, provides a sub-ledger capability to existing ERP solutions such as Oracle or SAP.  CFOs of companies with high volumes of complex transactions, in numerous geographies, need a tailored subledger capability to sufficiently understand their business without bringing the complexity into the general ledger.  The product is primarily sold to banks and insurers with annual contract values of ~£400k.  Customers include ING, ComonweathBank, MetLife, and Legal & General.

Insurance Calculation Engine (AICE), Lease Accounting Engine, and Revenue Recognition Engine are all compliance related products which allow users to adapt their financial reporting to new accounting standards, e.g. IFRS-17.

At FY 2017, the above products combined accounted for £16.4m in ARR.  At FY 2022, ARR here had grown organically to ~£35m, or 17% p.a., driven by AAH and AICE.  This ARR is highly recurring as customers require the product to complete their books, and customers are highly likely to be in business a decade from now.

In 2017 Aptitude paid £9m to acquire US-based RevStream, a revenue management accounting solution, which had £2.9m ARR at the time.  Its customers include many software businesses including VMWare, Activision, and Red Hat, but also smaller, less mature software and medtech companies.  RevStream has grown well over time. 

In 2021 the company paid £39m to acquire MPP Global / E-suite, a £9m ARR provider of subscription management software, primarily to online media customers including Sky and McClatchy.  This acquisition has been a major disappointment, as customers’ greater exposure to consumer spending and usage-based revenue has caused ARR to decline. 

RevStream and E-suite together total the balance (30%) of group ARR, or approximately £16m.

Competition

In AAH, Aptitude competes primarily with gorillas SAP and Oracle who do provide a sub-ledger product for their suites.  Aptitude wins clients within its niche because its product has more specialized features and faster to implement.  Within its compliance products, Aptitude also competes with specialists including Tagetik (a subsidiary of Wolter Kluwer) and Legerity.  It is by far the largest specialist in the industry.

Investment in Fynapse

In 2021, Aptitude announced it would make a large investment to create a cloud native version of AAH, named Fynapse.  This caused R&D as a percentage of sales to rise from an average of 15% over the preceding five years to 23% in 2022.  This version of the product has been delivered to its initial client, T-Mobile, and R&D intensity is expected to moderate going forward.  So far, this investment has underwhelmed.  T-Mobile was delivered, and earlier this year Aptitude announced a partnership with Microsoft, through which Fynapse will be offered as the sub-ledger to users of Dynamics 365 Finance and Operations, which has seven to eight thousand customers.  That said, management originally targeted winning a second large customer by the end of 2022, a milestone which they have yet to deliver on.

Board and management

Chairman Ivan Martin, brought on by Martyn Ratcliff at his departure in 2016, is the strategic driver of the company.  Previously, Martin ran the Banking and Securities division of Misys Plc, a FTSE 100 company which was taken private by Vista Equity Partners in 2012 for £1.3 billion.  More recently, as Chairman, he led the sale of Xceptor limited to Astorg, where investor CBPE reported a 10.8x return.

Acting CEO Alex Curran, appointed last week, joined the business out of university in 2004 and rose through the ranks to become head of North America (Aptitude’s largest geography) in 2019.

Recent trading update

On July 13, Aptitude announced that “ARR growth has moderated as the higher levels of churn experienced in 2022 persisted through H1 2023 for Subscription, Billing, and Revenue Management as certain clients monitor spend as a result of wider economic uncertainty and high inflation.”  Notably absent from the statement was news of a direct Fynapse customer win or initial sales in partnership with Microsoft.  Consequently, Jeremy Suddards, who joined the company from HP in 2018 and was appointed CEO in 2019, was replaced by Alex Curran.  The share price fell approximately 20% on the news.  

While disappointing, it is noteworthy that the slowdown relates to the less important segments of the business.  Suddard’s departure may be seen as a positive in retrospect.  He came from a much larger organization, which often caused a culture clash with colleagues.

Valuation 

Aptitude is a high quality niche software business that currently trades sub-3x EV/ARR.  Over time, I expect Aptitude will earn an 18% EBITA margin and cash flow to exceed earnings as they are paid upfront.  A business with these characteristics is likely worth 5x ARR.  Based on current numbers, that is £4.70 per share.  It wouldn't be terribly surprising to see this company get picked off by private equity at some point.

Catalyst

Continued growth.