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Thesis on Investment
UiPath Inc. (NYSE: PATH) the stock price continues to intrigue us. We argued in our previous article that PATH stock seems to be in the buy zone. However, we also warned that the stock is emerging which is in a secular downtrend, as it continues to take lower lows.
Notably, its FQ4 report card helped that trend continue. Furthermore, this is a card full of some headwinds, and we think some seem structural. Furthermore, its closest peer Blue Prism (OTCPK: BPRMF), continues to trade at a discount on PATH stock, further complicating its growth premium. In addition, Street average price targets (PT) have also consistently changed downwards. Therefore, even the best and brightest on the Street cannot determine why the market does not agree with its optimism.
But, the writing is always on the wall for a while. We just didn’t see it. PATH is totally unprofitable. And, if you can’t translate that massive topline growth into sustainable GAAP operating income, the market will continue to penalize UiPath investors. Until PATH learns how to be profitable, we encourage investors to learn to respect the secular downtrend.
As a result, we change our rating from Buy to Hold on PATH stock.
European Exposure & Investments Guidance Could Add to Headwind
UiPath telegraphs that it has relatively significant exposure in Europe. Notably, 30% of its business is exposed in Europe, including Russia and Ukraine. As a result, the company changed its ARR guidance for FY23, due to its exposure.
Therefore, we think the headwind of the company is structural. However, the company is confident that it can still use secular digitization drivers despite these conflicts. But, we believe that means UiPath may need to invest more going forward. As such, the company’s guidance also included relatively significant investment cadence. UiPath justified its rhythm because it suggested its reliance on its expansion plans. CFO Ashim Gupta (edited) stated:
We are committed to expanding like this is long -term. So when you think about our margin rates in the long run, I can say we’re expanding.
If you go back to what we went through in the last 3 to 5 years, we will find that trajectory to continue. And honestly, as we accelerate scale, that is to say, we will continue to examine the balance of profitability and growth.
We reiterated that we feel we are in a large and early growing market. We will make investments. We will not be shy about it. And we will be good stewards of that capital and measure the right profits and have the right barrier rates in it. (UiPath’s FQ4’21 earnings call)
But, Where Are the Revenues?
UiPath GAAP EBIT margins % (S&P Capital IQ)
UiPath reported revenue of $ 289.7M in FQ4, up 39.4%. FY22 revenue was $ 892.3M, up 46.8%. Therefore, UiPath’s revenue growth has also slowed as it has grown. However, we need to give credit to UiPath for the move towards profitability because its GAAP EBIT margins have dramatically improved. However, it is still not profitable, and its FCF margins look weak as well.
Furthermore, its FCF margins dropped from 4.5% in FY21 to -7.2% in FY22. Therefore, we are not convinced whether the company’s financial position could be further exacerbated by the headwinds discussed above. Cowen was also not optimistic in commenting on its earnings. It added (edited): “UiPath posted a broad solid Q4, beating the Street, but its outlook on 2023 is disappointing.
Some analysts also downgraded the stock because they were not confident in management’s guidance. The problem is that these analysts are too optimistic. We also previously held a Hold rating due to its growth premium but changed it to Buy in February as the market crashed widely.
However, while the Invesco QQQ ETF (QQQ) has come out from its bottom in February/March, the PATH stock remains at a low level.
We believe the current environment is not a good indication for highly speculative stocks like UiPath. We strive to find any nearby catalyst due to unprofitable business models, heavy investments, and structural headwinds.
Is PATH Stock a Buy, Sell, or Hold?
PATH stock NTM FCF yield % (TIKR)
UiPath continues to believe in its long -term strategy. Management believes this is the clear leader in its field. Nor does it consider its closest competitors as a significant threat in the near term. CEO Daniel Dines (edited) said:
We don’t really see an increase in competition. Conversely, we see less competitive pressure on deals.
And in terms of our traditionally skilled competitors, we actually see less of them.
We replace Blue Prism and Automation Anywhere with many customers. And speaking of new entrants like Microsoft (MSFT) and ServiceNow (NOW), we don’t see them much. – UiPath
But, ever since, we’ve been pretty quiet about investing in pure-play RPA players. ServiceNow and Microsoft have broader businesses. Notably, FCF is both profitable and can allocate significant resources to compete against UiPath and Blue Prism. Investors will be busy removing what is on the mind of the King of SaaS Microsoft.
You get our gist if you consider the FCF yields for UiPath and Blue Prism. For UiPath, it is an unprofitable business, slowing growth, faced with structural headwinds, and offering 0.01% NTM FCF yield.
Given the recent tech bear market, we believe there are many better options in the tech and growth space.
Therefore, we changed our rating from Buy to Hold on PATH stock.