Alteryx: Overvalued Or ‘Under-Understood?’

Alteryx and its quarter: No, the sky hasn’t fallen!

Alteryx (AYX) announced the results of its first fiscal quarter of 2018 a bit less than two weeks ago. As most readers know by this point in time, the company beat its prior forecasts for revenue, margins, and EPS that had been embodied in the First Call consensus by a substantial amount. In addition, the company increased its forward guidance noticeably, although almost certainly by an amount that will be beaten when it next reports its results in August. And yet the shares have significantly underperformed since that time as they had underperformed in prior weeks. Since the earnings release, through this writing, AYX shares have lost about 11% of their value, while the IGV index has decreased by a bit more than 1%. In fact, the shares have declined by 19% since they made a high since the company’s IPO in early March. That kind of share price performance is not consistent with that of most other recent tech IPOs and certainly not consistent with the performance of IT vendors that are reporting growth at 50% or more.

I think that this pullback has afforded investors an excellent opportunity to either add to current positions or to establish new ones. Alteryx is simply the leader in providing what are called “civilian data scientists,” tools that allow them to analyze the flood of data now available, and to use predictive, statistical and geo-spatial tools to provide enterprises with answers that are far more likely to be “right” and are available quickly and with less effort than what could be done before. Alteryx really doesn’t compete with Tableau (DATA) – and the introduction of Tableau Prep was a non-event in the real world in terms of competition – although obviously not in the stock market. On careful inspection, the recent offering of convertible debt will prove to be accretive for Alteryx – the imagined dilution is most surely a chimera.

Alteryx is a small company. Even at its current growth rate, revenues this year are forecast by company management to be around $184 million and its float of 22.6 million shares means that it can see lots of share price volatility that can scare some readers and investors. And despite its pullback, if one looks backward and not ahead, its valuation may be thought to be extended – although I would take the opposite side of that argument. And I really do not know if there are 30 million civilian data scientists that the company talks about who could use the Alteryx tool – that number wouldn’t include this writer for sure without lots of patient training. But it is the various misrepresentations and flawed analysis that have provided investors with an attractive entry price. I think the one year potential for this name is substantial and will afford investors a substantial level of positive alpha.

Some observers have said that Alteryx shares are overvalued. Others are now concerned by the threat of nascent competition from Tableau and its new data prep offering. And then there have been concerns expressed about the dilution potential from the company’s offering of convertible debt that closed last week. In fact, none of these issues is really relevant to current business trends at Alteryx, outside the minds of investors. But I suppose the minds of investors may count for more than reality at a certain moment in time. Perception, regardless of its validity, is far more important than reality.

I last wrote about this company for SA back in February, when the shares were rising and the company had reported a blow-out quarter. It seems worthwhile to revisit the outlook for the company and its shares again, given just how weak its shares have performed in the last couple of months. Alteryx has been public now for a bit more than a year, and it has experienced strong share price performance over that time, rising by more than 100%. But the fact is that the company has shown improved operational performance consistently over that span, with five consecutive quarters of beat and raise results.

Alteryx: It’s not really about data prep

Alteryx shares started to turn down in the wake of an announcement by Tableau that it was finally introducing a product based on its Project Maestro that offers data preparation as part of a combined visualization solution for its users. This was really not new news. Tableau had been announcing the coming of Project Maestro for a couple of years now and it had been in beta test a long time. This was perceived by some as a substantial threat to the current business of Alteryx, or at least as a threat to the company’s growth rate.

Yes, both Alteryx and Tableau deal with data analytics – and they have done so essentially since the start of their lives. No, they have not, do not and are very unlikely to compete with each other in the data prep market or any other part of the analytics space in any meaningful fashion. The misunderstanding regarding competition arises because Alteryx does provide its users with data preparation solutions and sometimes, the two companies have partnered in supporting a use case that uses Alteryx data prep and Tableau’s data visualization technology. How much business might that represent? Not much, because that’s not an optimal use of the Alteryx technology and never has been. On this last call, and on other occasions, the CEO said that only 15% from Alteryx goes into any visualization product. And of Alteryx users who send the results of their work to visualization products, 50% of their output goes into something other than visualization. And self evidently, Tableau is hardly the only visualization product on the market. And the fact is, at the moment, the Tableau prep product is what is called “light-weight.” It simply lacks the sophistication to do what the Alteryx product does and has never been designed to do so. It certainly enhances the overall Tableau user experience and it provides differentiation of Tableau compared to its real competitors such as Qlik (NASDAQ:QLIK), and particularly, Microsoft’s (NASDAQ:MSFT) Power BI.

The basic cost per seat for the Alteryx product is about $4,000/year on a three-year term and $5,200/year for a one-year subscription. The product that Tableau offers that includes its version of data prep functionality costs $840/year on a one-year contract. Needless to say, volume discounts are available, although perhaps less so for Tableau than Alteryx. But the point is clearly what Tableau is offering is not designed to address the same market that Alteryx is serving. No one would pay $4,000 for something that could be gotten elsewhere for $840. And they don’t.

Alteryx is a set of tools that ultimately is designed to support applications that revolve around predictive analytics. No matter how many charts and graphs a user creates using Tableau, or any other data visualization tool, they will never get an answer involving a business decision. An exercise that I commend to investors is to take a little time and go to the Alteryx community site where readers can easily find use cases. For those who do not want to undertake that exercise, of all the use cases described, one of these, a T-Mobile (TMUS) use case involves Alteryx to Tableau functionality. Would that use case be at risk? It is hard to say given the very nascent status of the Tableau offering.

In another use case, Alteryx technology had to be used to provide maintenance for a particular Juniper (NYSE:JNPR) Tableau application. That’s functionality most probably not in the initial release of Tableau prep. In all, there are literally scores of use cases that are on the community web site and two of these involve Tableau, and the other 98% do not, and are strictly about predictive and geo-spatial analytics and just how much time and how many right answers Alteryx solution are delivering to its customers.

At the risk of reprising the Alteryx commercial which I have linked for the convenience of readers, people use Alteryx because it requires no coding, it can be used by non-full time data scientists, it has repeatable workflows and it integrates data from all kind of sources and is able to perform predictive, statistical, predictive and spatial analytics within the same workflow. Tableau can integrate data from multiple sources and send it to its engine where a visual representation can be made. It doesn’t do and isn’t designed to do the other things that Alteryx does. That is not a knock on Tableau. The fact that a VW (OTCPK:VLKAY) can’t deal with the same volume of freight when compared to a Mack Truck doesn’t mean that the VW isn’t “good” but it doesn’t work to haul heavy volumes of freight.

For readers interested in reviews from outside the Alteryx community, the GetApp site which is current as of April 20 provides current reviews of the product from real users, although just a sample size of five. Again, these people use the product for predictive analytics in combination with data prep. That is really the unique part of what Alteryx is all about prep plus predictive analytics in a no-code/low code environment. And that’s very far from what the new Tableau offering does, or is designed to do or is likely to be able to do anytime in the near future.

When asked about Tableau on the latest conference call, CEO Dean Stocker said, “our teams (teams of Tableau and Alteryx sales reps) are still talking and doing deals together and working on bigger, more interesting accounts together. So, I think they did the right thing for themselves and validated our actions many years ago.” That is a lot closer to the real world than some of the fear-mongering that has informed the share price in recent weeks.

What did Alteryx actually report for its first quarter?

Alteryx really did report a strong upside compared to guidance. And yes, despite the upside, there were some commentators on this site who felt that the report was less than optimal and that the company’s growth rate was de-celerating. While it is certainly true that the 50% growth reported for the quarter is lower than the 53% top-line growth reported in Q4, it is probably more than good enough. The company added 281 customers in the quarter, a 19% increase from adds the prior year, and it ended the quarter with 3,673 customers, up by 43% year-over-year. As is typical for IT vendors, new name accounts decreased seasonally from 338 net new in Q4.

Some of the new wins included 3M, Intel, (INTC) Merck, (MRK) Waste Management (WM) and Under Armor (UA). At this point, given the success the company has had with its installed base, it is in a position to focus more on larger deals and larger new customers and I expect to see that as a trend for the balance of this year. Most impressive, at least to me, was the 132% dollar based net retention rate in the quarter. This is the sixth consecutive quarter with a dollar-based net retention rate of above 130% and is one reason why this company has consistently over-attained its forecast by such a considerable percentage.

The company has expanded its offerings with the introduction of both Connect and Promote. Connect is a solution that facilitates what is called the “first mile” of analytics. Connect might be thought of as a very sophisticated way of aggregating and sharing data that is far more complex and offers more user benefits than the rather simplified forms of data prep available. Ironically, Connect has actually been a tool sold to new Alteryx users despite the fears of some that data collection demand might be subsumed by Tableau prep. While the TAM estimates for an enterprise like Alteryx can get wild, and are not really such that should be taken seriously, the opportunity set engendered by Connect is clearly additive to the overall potential market for this company and the early returns from its sales have apparently exceeded initial expectations.

Promote is a so-called “last mile” analytic solution. It is capability that has expanded the overall scalability of the Alteryx solution Obviously, because of the nature of Promote, it is a solution that will be sold to users wanting to deploy the most far-ranging possible analytic capabilities and it will probably take somewhat longer to start to contribute noticeably to revenue growth, but it is likely to be a factor in both differentiating Alteryx’s offering and buoying percentage growth numbers in the second half of this year.

I have focused on these two product introductions because they are likely one of the reasons that Alteryx will be able to sustain very high net dollar based renewal rates for some time into the future, and in turn this is part of the reason to expect that the company will continue to exceed its revenue targets.

Within total revenues, international business expanded by 92% and US sales grew by 39%. In the prior quarter, international revenues grew by 81% and US revenues grew by 48%. There is probably a bit of seasonal influence in the level of percentage growth seen in the US, although despite seasonal factors, US revenues still grew by 7% sequentially, a strong Q4 to Q1 progression for most companies in the IT space. The level of international growth is extraordinary even though it is from a very small base.

I think US revenue growth will accelerate in Q2 for several reasons, including seasonal factors, the completion of the annual sales force cull and particularly because of the major product releases discussed earlier which are likely to drive noticeable revenues in the current quarter. I think that reworking the permitted use of the company’s offering of demographic data, which costs $34,000/user/year, and is only available in the US and in Canada, probably had some impact on US revenue growth, unrelated to actual product demand.

The company achieved a rather significant increase in its gross margin which improved by 500 basis points year on year. Essentially, the company was able to improve the productivity of its own professional services organization by using its own technology. In addition, in the wake of its data breach about which much was written last fall, and the company’s remediation and its subsequent restriction on passing through data, it had smaller fees that were paid to third-party data providers, which had the effect of improving gross margins. I have linked here for an article about that particular episode. Overall, the company was able to reduce the cost of revenue line by 20% sequentially, which is quite remarkable.

Management suggested that the costs of Connect and Promote service and installation will increase the cost of services, although exactly how that will play out in the numbers is harder to understand given the pricing and go-to-market strategies of these products. (Alteryx Connect costs $39,000/year and Alteryx Promote costs quite a bit more – and to use either, customers have to buy Alteryx Server which costs $58,500/year. I imagine at that level of price, there will be no problem in sustaining gross margins.)

The company did improve its operating expense ratio slightly, mainly because of a decline in general and administrative cost ratios which went from 27% of revenue to 23% of revenue. Overall, GAAP operating expenses only fell from 103% of revenues to 102% of revenues, mainly because of a 78% year-on-year increase in GAAP general and administrative expense.

The CFO pointed out that there will be both seasonal and one time events impacting Q2 expenses. The company is still trying to play catch-up in terms of its sales and marketing headcount and it will hold its Inspire Conference next month which does generate rather substantial sales and marketing expense for a company of this size.

The company generated $12 million of operating cash this quarter, of which 31% came from stock based comp. This compares to $5 million of operating cash flow in the prior year’s quarter, when almost 40% of cash flow came from stock based comp. Most of the increase in cash flow came from a sharp reduction in accounts receivable in the current quarter, when compared to year earlier levels. DSO fell very sharply compared to the end of 2017, although why that happened was not discussed by management. The company saw a small decline in its deferred revenue balance in Q1. This is not unusual and represents the impact of annual billings which typically lead to a massive build in deferred revenue in Q4, which is in part amortized into recorded revenue over the course of the year. The company offers both one-year and three-year subscriptions and the average contract term also is likely to influence quarterly changes in deferred revenue.

Guidance: How much can it be relied on and how much is conservatism?

In the wake of a quarter in which guidance was dramatically exceeded, it seems fair to ask what the likely revenue progression might be going forward. It seems clear, at least to this writer, that the sequential increase in revenues that Alteryx has forecast, which at the high point is just 3%, is highly unlikely. In fact, given that Alteryx books deals all through any given quarter, presumably, it has already surpassed the revenue run rate it forecast for Q2. Again, at the least, the Inspire show will see a flurry of some large deal activity announced, and some of those transactions will already have taken place. And given the prices of the company’s newest products now in GA, I would expect that at least on a sequential basis to see some impact from transactions involving those solutions. So, no, I do not think it reasonable to base a valuation analysis on the specifics of management’s guidance – in fact the exact opposite is the case.

It is certainly possible to put together a forecast for conservative quarterly revenue progression for Alteryx, both for this coming quarter and the full year, but it is a guesstimate – and not much more than that. I think it is reasonable to expect at least 12% sequential growth this quarter, a touch above the growth in Q1 to reflect some of tailwinds I have commented on above. That suggests a revenue expectation of about $48 million for this quarter, and using somewhat comparable methodology, produces a revenue target of $202 million to $205 million for the full year, and perhaps close $290 million in 2019. That later number is more than 21% above the currently published First Call consensus, and it might suggest why a rational price target can be so much higher than the current average price target depicted on First Call.

Management’s forecast, to the extent it is a forecast, can be similarly modified for expected growth in non-GAAP expenses. While at this point Alteryx is not likely to produce earnings or a high enough level of free cash flow to be valued on those metrics, it is reasonable to assume that the company will indeed see the leverage at scale that is inherent in the company’s land and expand sales model, where the heavy lifting in terms of costs is up-front, and where renewals and expansions are highly profitable.

Management’s forecast for earnings this year implies operating expense of about $180 million. Non-GAAP operating expense was a bit under $40 million in Q1. How the company could manage to reach $180 million of operating expense for the full year requires very aggressive assumptions in terms of hiring. That would not seem to match the company’s revenue forecasts. It would simply be difficult, in today’s constrained tech hiring environment, for this company to be able to grow its research and development spend at the rate it did last quarter (28% sequentially). Qualified people do not exist than can be readily hired by a smaller company at such a cadence. And the growth in sales and marketing expense, while to some degree a function of the strong level of investment internationally, probably cannot be sustained at Q1 levels in the balance of the year. This past quarter, the company, despite the sharp growth in operating expenses, still beat its own forecast for EPS quite dramatically ($0.01 loss vs. $0.06 projected), and it seems reasonable to assume a similar pattern for the balance of this year.

Valuation

One often hears that Alteryx shares are overvalued. Of course, the same might be said about almost all hyper-growth IT businesses at this point. The difference in this situation is that Alteryx shares have seen a noticeable pullback. It’s mainly a question of forward growth rate assumptions. I think those are unreasonably low and will be noticeably exceeded as detailed above.

At the moment, Alteryx has an enterprise value of $1.8 billion. My forward 12-month revenue forecast is around $220 million. So, the shares are selling at an EV/S of around 8X. This is actually a discount from the average EV/S ratio calculated by CS which was most recently 9.4X for companies in its cohort of 30%-plus revenue growth. That may be a surprise to some readers and commentators, and therein lies the opportunity.

As it happens, because of its very high gross margin levels, this company is noticeably more profitable (or it makes lower losses) than its peers in the CS high growth cohort. And it has generated a bit of operating cash flow the last two quarters, far better than burning cash.

Big data analytics and AI are trends that are happening now and will continue to happen over the coming quarters. Alteryx is, at the least, one of the leaders, if not the absolute leader in terms of both its vision and its ability to execute. Its latest product offerings, Connect and Promote, are quite differentiated when compared to capabilities available from other vendors in this space.

The misperception that Tableau is a competitor is one that in time will abate. Most lately, some analysts and commentators have focused on the so-called dilution from the recent convertible debt offering. The fact is that acquiring what is close to free money is a positive and not a negative. I’ve shared that analysis with my Ticker Target investment community in some detail, but most likely the result of the convertible offering will be to accelerate growth and improve profitability such that the net result will be accretion and not dilution.

On the call, management talked about some further undefined surprises to be unveiled at its Inspire user conference. I have no idea what those might be. But it does seem that Inspire may produce a tradeable event. I think there’s notable positive alpha to be had in taking a position or expanding holdings in the shares of this company at this time.

Disclosure: I am/we are long AYX.

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.

SeekingAlpha

Leave a Reply

Your email address will not be published. Required fields are marked *