Defensible market position in market niche
The applications software market, unlike the systems software market dominated by Microsoft Corporation (NASDAQ:MSFT), is characterized by free cash flow generative companies boasting of strong market leadership in their specific niches. Examples of such companies include Adobe Systems Incorporated (NASDAQ:ADBE) in graphics design software and Intuit Inc. (NASDAQ:INTU) in small business accounting software.
Blackbaud, Inc. (NASDAQ:BLKB) sells its software and services to more than 28,000 customers in over 60 countries. I am positive on Blackbaud’s ability to defend and further expand its market position for a couple of reasons.
Firstly, Blackbaud benefits from customer captivity, as a result of high customers switching costs. Its clients typically assess the advantages and disadvantages of switching, and decide that the costs of switching in terms of time wasted in learning how to use a brand new system outweigh the benefits of switching in terms of more attractive pricing.
Secondly, non-profit organizations have specialized needs that cookie-cutter software solutions fall short of. For example, certain fund accounting reporting standards are unique to non-profits. Also, different indicators of operational performance are used vis-à-vis for-profits such as the number of volunteers and meals delivered.
Last but not least, managing costs for non-profit organizations is as important as that for profit organizations, if not more important. Non-profit organizations have to be accountable to their donors for every dollar that does not go straight to the beneficiaries. Choosing to use either manual methods or standardized software for fund raising purposes, typically results in higher cost inefficiencies, rather than savings.
Recurring and diversified revenue streams
Investors are usually concerned with lumpy one-off revenues derived on a project-by-project basis and concentration of revenues within certain units. Blackbaud, Inc. (NASDAQ:BLKB) puts these investor worries to sleep with its recurring and diversified revenue streams. It grew revenues by an impressive ten year compound annual growth rate of 15.6%, with its top line increasing in every single year in the past decade.
About two-thirds of Blackbaud’s revenues are recurring in nature, relating to subscription and maintenance agreements. In addition, no single industry represented more than a quarter of Blackbaud, Inc. (NASDAQ:BLKB)’s top line.
Growth drivers
Blackbaud delivered an excellent set of results for the first quarter with revenues and non-GAAP diluted earnings per share increasing 22% and 53% year-on-year to $115.6 million and $0.26, respectively. Going forward, there are multiple growth drivers for Blackbaud, Inc. (NASDAQ:BLKB).
Blackbaud has plenty of room for growth outside of the U.S.. Although it almost tripled its international revenues from $22 million in 2005 to $61 million in 2012, international operations still account for only about 14% of total revenues. It plans to grow organically by increasing its international direct sales force and inorganically through strategic acquisitions. Past acquisitions included the purchase of Everyday Hero, an event-driven web-based fundraising solution in Asia-Pacific and the U.K., in 2011.
Within the U.S., Blackbaud also sees potential cross-selling opportunities among its 19,000 mid-market customers. These customers typically use less than two of Blackbaud’s products and have a stronger demand for Blackbaud, Inc. (NASDAQ:BLKB)’s services because of their available capital budget and staff strength.
Peer comparison
Blackbaud’s peers include Intuit Inc. (NASDAQ:INTU) and Adobe Systems Incorporated (NASDAQ:ADBE).
Similar to Blackbaud, Intuit benefits from high switching costs, customers want to avoid the risk of data loss in the process of transitioning to a new accounting or tax software program. Intuit Inc. (NASDAQ:INTU) achieved a good set of results for the third quarter of fiscal 2013, with revenue and operating income up by 13% and 12% respectively. It plans to meet its double digit revenue growth targets through improvement in conversion rates. Intuit’s current conversion rates range from 2%-14% and a doubling of current conversion rates will add an estimated $1 billion to its top line.
The key investment risk for Intuit is its revenue concentration with respect to products and customer segments. Intuit derives a significant portion of revenues from its flagship QuickBooks and TurboTax products, and its small and medium-sized business customers are typically perceived as more vulnerable in an economic downturn.
Adobe Systems Incorporated (NASDAQ:ADBE) is one of the largest software companies globally, with flagship products as the Photoshop photo editing tool and the PDF & Flash platforms. Its revenues for the second quarter of fiscal 2013 of $1.011 billion were well within its prior guidance of between $975 million and $1.025 billion.
The highlight of the quarter was the progress of its transition of Adobe’s current installed base from a perpetual license model to a subscription model with Creative Cloud. Its Creative Cloud subscriptions reached 700,000 in this most recent quarter, an increase of 221,000 over the prior quarter. Adobe’s near-term share price upside is largely dependent on its success in overcoming customers’ resistance in moving over to a subscription model, which will increase the proportion of recurring revenues for the company.
Conclusion
The non-profit industry opportunity is estimated at $16.5 billion and Blackbaud, Inc. (NASDAQ:BLKB) management claims to have a dollar penetration rate below 3%. This illustrates the potential for growth in Blackbaud’s business, which is duly reflected in its valuations with a 23.7 forward P/E and 1.9 PEG. I will advise investors to wait for a better entry price in the event of a pull-back in the share price.
The article Making Profits From Non-Profits With This Stock originally appeared on Fool.com and is written by Mark Lin.
Mark Lin has no position in any stocks mentioned. The Motley Fool recommends Adobe Systems, Blackbaud, and Intuit. The Motley Fool owns shares of Intuit. Mark is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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