Autodesk: Market-Leading Design Software, Perfectly Positioned For Growth (NASDAQ:ADSK)

Investment Thesis

Despite Covid-related headwinds which would have restricted enterprise spending on capex and project design, Autodesk (ADSK) showed incredible resilience, strong customer retention and continued to increase revenues and profit margins. The stock is well positioned to capitalize on post Covid-19 trends and provide continued growth for investors.

The opportunity

Autodesk describes their business as being the maker of software for “people who make things”. They provide 3D design software which targets customers in the architecture, engineering, construction media and manufacturing industries listing vehicles, skyscrapers, smartphones and films as just some of the products where their software can aid design teams.

In a period where spending on “making things” has been impacted by the pandemic, with the global construction industry showing a 3% decline and 78% percent of respondents to a recent National association of Manufacturing survey anticipating a financial impact from Covid-19, the Autodesk stock price has shown incredible resilience (37% return year to date). It’s our thesis that despite notable headwinds outlined here, Autodesk’s 2020 performance bodes well for those investors who have a long-term post-pandemic horizon.

ChartData by YCharts

Looking to the future, when global infrastructure, construction and manufacturing spend begins to increase again, we can expect Autodesk to further outperform the general market. Global corporations and business leaders are looking to the green infrastructure, technology and cloud computing powered “fourth industrial revolution”, to provide post pandemic growth.

Both UK Prime minister Boris Johnson and US presidential elect Joe Biden have commented on the necessity to build back better, committing £5bn and $1.3 trillion to infrastructure spending respectively, paving the way for a splurge of government and corporation spending on green, clean and tech enhanced infrastructure to assist in the global recovery. As a growth investor, it makes sense to understand these secular trends and build your investment portfolio accordingly.

Autodesk is particularly well-placed to capitalize on these trends, given the company’s focus on developing software for architects, construction designers and manufacturers and the increased spending highlighted here will provide a boost to their total addressable market. The company’s recent cloud transition phase, outlined excellently in this recent Seeking Alpha submission, also means it is well-placed to adapt to the new work from home culture.

The company have a long and successful history of outperformance with which investors can gain comfort as to their expectations for future growth, with stock performance outpacing the market since inception (see chart below) and providing a compound annual growth rate of 21% in the last ten years alone (2010 vs 2020 stock price).

ChartData by YCharts

Recent performance

The company posted positive Q2 2020 results, despite headwinds outlined earlier in the article, posting increased revenues of $913million (15% year on year), EBITDA margin of 19% and free cash flow of $64million.

(Source: Company SEC Filing Q2 2020)

Whilst the headline revenue growth figure may initially seem low to hyper-growth SaaS investors, with growth expectations fuelled by numerous recent examples of triple digit revenue growth in 2020. It is important to evaluate within the context of Autodesk’s excellent profitability.

The company boasts an exceptional 91% gross margin and 14.3% EBITDA margin. The latter would be significantly higher were it not for considerable research and development expense of $232million (29% of revenues). This signals a company that is still intent on growing its product offering and has identified more room to develop its operations.

The products

The company has shown an ability to continue to remain relevant, evidenced perfectly by its AutoCAD software. Despite a release date of 1982, AutoCAD is still a core driver of revenues today, providing over 29% of revenues in Q2 21 (18% Y-on-Y growth) as can be seen below. The ability to allow products to evolve in line with the customer basis has seen AutoCAD develop from its original state into the current A360 offering, available on the cloud via any device and enabling design collaboration where users can seamlessly share design ideas – a must in the current work from home culture.

Source: Autodesk Q2 2020 Presentation

Autodesk’s focus on design spans many sectors and geographies as we can see in the graphic above, the company’s strongest sector Architecture, Engineering and Construction (43% of revenues – 19% Y-on-Y growth) which houses its flagship product Revit. It is encouraging to note continued “Digitization” in this space from Autodesk, with a noteworthy adoption of its key BIM product feature doubling in the past year according to the Q2 investor presentation.

The BIM Feature (Building information modelling) is well placed to be a strong growth catalyst in the green industrial revolution, it is an “intelligent model-based method for planning, designing, constructing, and managing buildings and infrastructure” and further evidences Autodesk’s ability to align products with demand trends.

The ability to evolve products is one positive factor for investors; another is bringing new products to market to capture additional market share opportunities.

The company’s recent success stories include partnerships with Tesla (TSLA) the electric vehicle manufacturer. The Tesla model S project provides an excellent insight to their work, and as strong of a recommendation as any software company could desire, with Tesla’s chief designer Franz von Holzhausen commenting that “Autodesk Alias Surface software is the best automotive design tool, bar none.”

Due to the profitability of Autodesk outlined earlier and their strong free cash flow, they are well placed to make acquisitions to bolster their inventory of products. That is exactly what they have been doing with a recent acquisition of Spacemaker, which further enhances their product offering in urban design, bringing “artificial intelligence, and generative design to help architects, urban designers, and real estate developers make more informed early-stage design decisions faster and enables improved opportunities for sustainability from the start.“

An additional factor to consider from the graphic above is the strong APAC (Asia Pacific) revenue growth, with over 21% year on year growth. This is no doubt a potential growth market for Autodesk, given that it currently only presents 20% of total revenues and could signal future room for growth.

Risk Factors

As with any investment, weighing up the risk is as important as outlining the opportunities. We’ve already touched upon one area with which growth investors may see as a negative for Autodesk – the Q2 2020 year on year revenue growth figure of 19%. This is lower than a lot would deem suitable and may result in turning attention elsewhere, this figure flows into the popular “Rule of 40” SaaS metric, and is often utilized alongside EBITDA margin (14.3%) giving Autodesk a rule of 40 figure of 33%.

Interestingly a commonly used alternative method of calculating the rule of 40 gives a differing viewpoint to investors, utilizing Q2 2020 cash flow margin in the calculation gives an output of 65% (19% revenue growth + 46%(Cash flow from operating activities/sales)). As outlined earlier in the article, considering headline revenue growth in isolation may not be the best method here.

Whichever metric is used, it is important to align investors opportunities against their expectations for market growth in 2021 and beyond. It is unlikely that the extraordinary revenue growth witnessed in 2020 by the work from home stocks will be repeated in the future. If investors are seeking reliable and recurring revenue growth evidenced over a number of years then Autodesk with its history of success may be well placed for additional capital allocation.

Economic uncertainty

The global pandemic is undoubtedly going to present some economic uncertainty as we move into 2021 and beyond. This graphic from the Boston Consulting group forecasts GDP across a number of global regions.

(Source: Boston Consulting Group)

Some investors may points to this as a headwind for a company which is aligned to the construction, engineering and manufacturing industries and it would be hard to argue otherwise. However, it does seem prudent to also consider Autodesk’s strong 2020 performance and it’s historical ability to outperform the market, the company has endured the 2008 global financial crisis and the 2000 tech bubble, yet still managed to continue to deliver value to shareholders.

Valuation

Autodesk is currently priced at 15.9 times Enterprise value to revenues (Trailing 12M Revenues) which would not put it in the cheap or value category and may appear too pricey for some investors. However, when assessed against comparable companies in the application as a service space, we can get a good feeling as to the price investors are willing to pay for quality. Autodesk is priced at the mid-point of two fellow powerhouses of the sector, Nvidia (17.8 times EV/Revenue) and Salesforce (12 times EB/Revenue) which suggests investors are willing to bet on its continued annual growth continuing.

Competitors

Autodesk is not alone in the computer-aided design space, with industry heavyweight Adobe often seen as a competitor with its Adobe Illustrator software, albeit it does not directly compete with Autocad it does provide a useful design tool for a smaller cost. There are also a number of smaller niche CAD software companies, again offering products at a reduced price. Autodesk even notes in it’s recent 10-Q “The software industry has limited barriers to entry”.

Whilst these competitive challenges may be a consideration for some, if our thesis holds true that significant government and enterprise spending is to be the key growth driver going forward, given the value and complexity of large scale infrastructure projects, we would expect these customers to choose Autodesk’s software given its market leading status.

In terms of the smaller players, Autodesk’s main competitive advantage is it’s strong distributor network, per their recent Q-10 we note that 75% of sales were made through distributors via “Indirect” methods and a not insignificant 51% of operating expenses were attributable to marketing and sales.

(Source: Company Q-10 SEC Filing)

This would appear difficult for smaller scale operators to match and provides a competitive advantage to Autodesk.

Conclusion

Autodesk is a market leader in the computer design software space, with key footholds in many industries which have been impacted by the pandemic, despite this the stock has shown resilience and outperformance. We expect this to continue as the global economy recovers, driven by large scale infrastructure projects.

A company with a strong history of consistent returns and continued growth, set against the backdrop of increased global spending on green infrastructure presents an appealing opportunity for investors.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.

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