Clouds? SaaS? Electronic? No difference
Thanks to the rise of data centers, cloud computing, and millions of different software applications for use by entities, the rise of subscription software services began in the late 2000s. While some companies like Adobe (ADBE), Salesforce (CRM), and Labor Day (WDAY) have had incredible growth rates over the past decade or so, most SaaS companies in fact have very slow growth. Is competition holding back growth, or are the SaaS positives (shown in the image below) excessive? This article will highlight an example of a leading SaaS player RELX plc (NYSE: RELX), a company that dominates their respective markets, but has failed to see positive (earnings) growth in recent years. In return, I will also provide my perspective on why I am not interested in other SaaS names because I believe they will encounter a similar fate in due course.
RELX: A Bond -Like Investment in Risk Management and Media
RELX, formerly known as Reed Elsevier is a giant in business analytics and support software, scientific literature publishing, and Legal industry software and database provider. With a $ 51 billion market cap, it is one of the largest underfollowed companies in the SA ecosystem. This is even though RELX is a #1 or #2 provider in their diverse markets. As you can see in the charts below, RELX is a diversified business, but growth is relatively scarce. Although, they are performing better than many expected thanks to a smooth transition:
In 1995, Forbes magazine predicted (incorrectly) that Elsevier would be the “first victim of the internet” as it was interrupted and disrupted by the World Wide Web.
Risk management is an important way for businesses and organizations to improve their operational efficiency. The main way to do this right now is by providing cloud solutions that are easily accessible, have unlimited processing power to drive data and analytics, and often have some form of automation capabilities or machine learning. This is the case for RELX’s main subsidiary LexisNexis with a large variety of SaaS, research, and analytics solutions across all markets. They are as follows:
LexisNexis: Online data sourcing and analytics service.
ICIS: Leading global chemical and energy market research and data provider.
Cirium: Leading flight and travel data analytics solutions.
Proagrica: Farm management software for the agricultural industry.
XpertHR, EG, Nextens: Generalized HR, real estate, and tax solutions.
These subsidiaries are leaders in their respective segments, and this should be reason for the company to see superior growth. Salesforce is a leader in customer relationship management, is larger in size, but has a different growth profile compared to RELX. I believe the difference is due to the maturity of RELX, as the company has moved from legacy software solutions to modern cloud solutions with the same customers. Today, they have reached a plateau in organic growth, with CAGR averages now less than 10% over the past few years (earnings). As I will show later, total revenue in all segments is generally flat over almost 20 years! Let’s look at the rest of the segments to see if there are specific risk points that should be considered.
Scientific, Technical, and Medical Segments
This segment is led by academic research publishing giant Elsevier. Anyone like me who has tried to research outside of your home institution is certainly familiar with Elsevier and the lack of open-source research papers. At the same time, a growing movement to encourage open-source literature has resulted in this segment averaging 1-3% revenue and revenue growth per year. While more than 74% of revenues are subscription -based, outside competition hinders the overall growth rate. This is frustrating because the number of articles published on Elsevier is rising at a 7% annual rate, but the company cannot raise market pricing. Sure they have a moat, they definitely have almost entirely electronic and subscription platforms, but performance reflects poor industry.
A unique feature of RELX is their significant exposure to the law industry. People will always complain about how lawyers take money into society, but there also seems to be a lack of revenue growth in this segment. However, I see that operational improvements have led to significant margin improvements over the past 10 or more years, unlike other segments. As I will discuss next, small improvements in earnings are the main reason to support RELX, as earnings growth is the main driver behind shareholder returns.
Overall, RELX has a very stable earnings pattern, with no growth. At the same time, the bottom line is slowly improving at a faster rate than revenues, but the potential will always be hampered by a lack of organic growth. However, one must consider the fact that RELX continues to sell legacy publishing assets and add to smaller software providers. This is the main reason why RELX reflects this pattern financially. I also wonder what change might allow the ball to start rolling up the hill again.
While growth is not a major bullish point for RELX, investors can take solace in otherwise sound finances. The balance shows that debt has been maintained at the $ 8- $ 9 billion mark, while money has fallen from $ 2 billion to less than $ 200 million. This was partly due to significant share repurchases in the first half of the 2010s, although buybacks did not occur for several years. At the same time, free cash flows have become stable, and this makes RELX more like a bond than common equity. In fact, credit agencies rate RELX at the investment grade setting BBB+/Baa1 position, with a solid outlook. You can read some management comments on the capital structure below.
Those interested in a stable, such as hedge investment don’t look any further. However, there is one incredible risk point in an investment in RELX: The appreciation. Right now, the company is trading at 30x P/E !! For this incredible growth (highlights investors ’favor for safety). However, once the speculation is favored again, the analysis is likely to rise. Historically, the best time to buy is less than 20x P/E and I will not attempt to buy until the valuation drops to that level (a fairly common occurrence). Patience is a virtue!
There are some key takeaways we can learn from studying RELX. First, it’s not too difficult for legacy companies to move to a SaaS -like business structure. While weak companies have certainly gone bankrupt due to competition, RELX’s leadership in many verticals allows for the company to maintain long-term relationships. Having sticky products that rely on clients regardless of the core strategy a company should take.
The current high growth “disruptors” we see climb into the market are in fact only finding organic growth in unserviced or new markets. When a company reaches the edge of the available market, growth rapidly declines. However, RELX is an extreme example as stalwarts ADP (ADP), SAP, and Accenture (ACN) continue to increase revenue. RELX is most similar to Oracle (ORCL) in terms of flat revenues and profits. Fortunately, only IBM seems to have been hit in the modern era, but is returning to new cloud platforms and stabilizing the downward ascent. Just look at how most of RELX’s revenues are both electronic and subscription -based (or long -term contracts), other large companies are similar, if not more similar to SaaS.
As you can see, older men continue to maintain their positions as leaders in business solutions and SaaS or cloud versions of most platforms are available. This will put incredibly competitive pressure on high-growth SaaS providers with meaningful solutions that overlap with large companies. Examples of companies I believe will soon reach the growth wall include ServiceNow (NOW), Workday, and Atlassian (TEAM), because the competition is so fierce, the market is reaching saturation (the digital shift is already underway) , and most faced their first period of financial weakness (thanks to rising interest rates, inflation, possible recession). I will stay with a company with purchasing power and diversity, such as Microsoft (MSFT) or Alphabet (GOOG), the largest SaaS provider.
The main takeaway of my conclusions is well-conducted because appreciations are resetting and the evolution of hyped names is slow. I also assume that companies with less than a $ 10- $ 20 billion market cap still have little in-store growth, as long as they have a vertical that grows unimpeded. Otherwise, I continue to hope that software companies won’t be as good as they performed last year. The main indicator is the cessation of growth, but also look for values that are emphasized at the same time. If you decide to add in companies at this point, make sure they are small in size to take advantage of high growth, have a moat -like niche (ie Cloudflare (NET) or Snowflake (SNOW) [debatable]), and have a financial base to survive weak market conditions.
Thanks for reading. Feel free to share your thoughts below.