We are upgrading our rating on ANSYS (NASDAQ:ANSS) to ‘Buy’ after recently covering the company and being bearish on the shares. We are upgrading mostly based on valuation, but also thanks to attractive growth guidance provided by the company for this year.
Since we published our bearish article, shares have had a total negative return of roughly -31%, while the S&P 500 returned -10%. While we have always believed Ansys is a terrific company, with an attractive business model and good run operations, we were put off by what we saw as an extremely expensive valuation. Now that this has been corrected to a large degree, we can be more optimistic on the shares. We are particularly attracted to Ansys’ strong competitive moat that comes from high switching costs and recurring revenue streams that give the company incredible stability.
When Ansys reported its Q1 2022 earnings, it had both an earnings and revenue beat, but what we found more interesting was the increased FY2022 outlook on annual contract value (ACV) growth. During the earnings call management summarized the new FY 2022 guidance in the following way:
Let me start with our full year 2022 guidance. We are updating our full year ACV outlook to be in the range of $1.960 billion to $2.020 billion. This represents growth of 4.8% to 8% or 9.2% to 12.4% in constant currency. We are raising the midpoint of our ACV guidance by 1 point of constant currency growth compared to our February guidance. This raise is driven by the strong ACV performance we saw on Q1 and improved forecast we see for the rest of the year. That underlying improvement drove a full year ACV operational increase of $35 million relative to our February guidance. This operational momentum was offset by absorbing $18 million of Russia and Belarus business and $47 million of foreign exchange headwind. […] As a result, we expect our full year EPS to be in the range of $7.53 to $7.94. Relative to our February guidance, our full year EPS increased around $0.25 from better operational performance and lower share count, which was offset by absorbing $0.14 from Russia and Belarus and $0.24 of foreign exchange headwind.
The company also continues to shift its mix more toward lease licenses over perpetual licenses, which creates momentum in recurring ACV growth. As can be seen below, revenue has continued to grow with remarkable consistency. It slowed down somewhat during the Covid crisis, but since then it has returned to trend.
In fact, revenue growth has been averaging ~10% for the last ten years, and we see no reason to believe this will not continue for many more years.
The company continues to have enviable margins, in particular its high gross profit margin gives the company a lot of operating leverage as sales increase. Operating and net profit margins have deteriorated a bit in recent years, but are still considerably above average, reflecting the high quality of the business.
Besides the improved guidance, it is the reduced valuation that is motivating our upgrading of Ansys to ‘Buy’. As we’ll see, the valuation has gotten a lot more reasonable through a combination of a declining share price and increasing earnings and revenues. Shares are no longer trading at unrealistic EV/Revenues multiples of 15-20x, but closer to their 10-year average of ~10x.
Similarly, the EV/EBITDA multiple has deflated, and is now close to the 10-year average around 26x, with the forward multiple a little lower thanks to the expected increase in earnings.
Looking at analyst estimates compiled by Seeking Alpha we can see that the forward P/E ratio is ~32x, and that in the next two years it is expected to go down to ~26x thanks to the growth in earnings. These multiples are not cheap, but Ansys is an extremely high-quality company that is rarely on sale.
To get an idea of what type of return an investor can expect at current prices we built a simple discounted cash flow model, with a discount rate of 10%, using EPS estimates from analysts for the next three years, and 11% growth thereafter for ten years, and terminal growth of 5%. Despite leaning to the optimistic side, the net present value we got was still somewhat below the current price, but not by much. We therefore believe that long-term investors buying at current prices can expect an 8-9% return, which is perfectly fine for a consistent and below average risk company such as Ansys.
|EPS||Discounted @ 10%|
|FY 32 E||22.49||7.88|
|Terminal Value @ 5% terminal growth||449.85||143.33|
We are upgrading Ansys to ‘Buy’ based on increased guidance for the fiscal year 2022, and a much more reasonable share price. Several valuation ratios are now close to their 10-year average after having risen to unrealistic levels. The company remains the same consistent grower that it has been for a long time, and with all the promise of new use cases for its simulation software. We believe long-term investors purchasing shares at current prices can expect an ~8-9% return on their investment, which can be considered quite reasonable given the consistency and quality of the company.