Australia | Nov 29 2016
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Accounting software business MYOB is shaping up as a key player in the cloud but brokers are acutely aware that competition in that area is heating up.
-Accountants a key distribution channel and platform for growth in SME applications
-Potential for downward pressure on margins, as SaaS typically generates lower margins
-First mover advantage in the cloud ceded to Xero amid competition from new entrants
By Eva Brocklehurst
Accounting software business MYOB ((MYO)) is shaping up as a strong player in the cloud, with clear strategies to deliver long-term growth from the transition to online connected services. Cloud adoption is entering a new phase which should benefit the company and play directly to MYOB's key strengths, Ord Minnett believes.
The broker envisages the company will, in the medium term, maintain its market leadership position in accounting software, while delivering a high proportion of recurring revenue. The company's 2016 guidance includes revenue in line with its historical trends, an earnings margin of 45-50% and an R&D/sales ratio at the upper end of the 13-16% range.
Ord Minnett likes the company's approach to practice management, believing this will be the next battleground for accounting software vendors. The company has over a 60% share of accountant businesses, with a low risk, incremental cloud transition solution which fully integrates a client's existing desktop. MYOB now has around 400 engineers, with R&D expected to cost over $55m in FY17. Ord Minnett finds it hard to reconcile investor concerns that under Bain's majority ownership, MYOB has under-invested in its business.
Deutsche Bank also notes the emphasis on accountants, as this industry is considered to be important in influencing decisions by small to medium enterprises (SMEs) about purchasing accounting software, with 87% of these businesses naming their accountant as a key advisor. Field surveys indicate 69% of the accountants recommended MYOB product for clients.
Hence, the broker believes accountants remain a key distribution channel and a powerful platform for growth. The company's cloud-based Advanced product is now the main driver behind growth in enterprise solutions and contributed roughly half of sales in this area in the year to date. Advanced is expected to make up more than two thirds of sales in 2017. Deutsche Bank considers the stock's valuation attractive relative to both domestic and international peers and retains a Buy rating.
Credit Suisse recently initiated coverage on the stock with an Underperform rating. The broker accepts the company is a beneficiary of the shift to cloud-based services and estimates the domestic revenue of the three largest operators in the local market grew by 40% between 2013 and 2015. Still, competition will accelerate and is expected to put the company's market share at risk.
While MYOB has enjoyed a high margin by industry standards and relative to global peers, Credit Suisse currently models a flat margin profile and envisages potential for downward pressure, given software-as-a-service (SaaS) typically generates lower margins than traditional software. The broker finds the stock's valuation stretched relative to forecasts and believes the market may be pricing in a (unlikely) benign competitive environment. A sell-down of the Bain stake may also weigh on the stock.
UBS has questioned whether growth is becoming vulnerable, given a potential lift in bond yields. MYOB is a quality company, and has an incumbent position and recurring revenue which underpins its business, yet the broker considers its long-term profile depends very much on its penetration of the cloud and retention of market share.
Credit Suisse estimates MYOB has around 80% share of SME desktop accounting software users but this base has entered a terminal decline and the company is no longer actively pursuing SME desktop license sales.
In a relative sense the company is playing catch-up in the cloud and has ceded first mover advantage in online solutions to Xero ((XRO)). Credit Suisse notes that while MYOB has largely filled out its product suite and is having success with conversions, it remains well behind Xero in terms of share and net additions.
The broker estimates MYOB's share of the cloud accounting software market as of June 2016 was around 28% versus 58% for Xero. While closing the gap is not impossible and the broker acknowledges the company's strategy is sound, it will become increasingly more difficult as penetration of this market increases, given churn is low. The company also faces increasing competition from new entrants, as both Sage and Intuit have been actively promoting their online solutions in the Australian market and pricing aggressively.
The company has, historically, had a dominant position in accounting software for the SME and accounting practice segments. The three largest players in the domestic market are MYOB, Xero and Reckon. Revenue for these three increased by around 40% over 2013-2015. MYOB was listed on ASX in May 2015 following two periods of private equity ownership. Bain Capital retains a 59% stake.
FNArena's database shows three Buy ratings, two Hold and one Sell (Credit Suisse). The consensus target is $3.93, suggesting 12.5% upside to the last share price. Targets range from $3.20 (Credit Suisse) to $4.40 (Deutsche Bank).
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