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thesis
Dassault Systèmes’ (OTCPK:DASTY) PLM category is playing an increasingly critical role in facilitating digitalization in domains as diverse as manufacturing and life sciences. DASTY’s 3DXPERIENCE platform continues to impress me and I expect a DASTY market continue to grow through the rollout of this solution as part of large standardization orders. In my opinion, Dassault’s competitive position is still strong, and as it moves to the subscription model, I also see potential for up-selling cloud products, which could lead to further earnings surprises. Despite the apparent conservatism of the top-line forecast, I expect upside from China’s recovery, particularly in 2H23. As for margins, I expect some headwinds from the transition to subscription and ongoing investments. Additionally, I expect DASTY to reach a net cash position in the next quarter, giving it flexibility in large M&A deals. Despite trading at high price-to-earnings ratio, I believe that DASTY’s strong business fundamentals, cash flow and potential upside from value-added M&A deals justify the high price. As the 4Q22 results demonstrate the resilience of the business model in the face of macroeconomic uncertainty and support the growing importance of the PLM category, I recommend a BUY rating on DASTY.
Review of fourth quarter 22nd quarter results
It seems to me that the cautious tone of the FY23 topline guidance on licenses for 1Q23 is a result of the tighter comparisons. But unaware of any windfall from China’s reopening, management expects licenses to grow steadily for the rest of the year, which could be good news. Overall, I expect recurring revenues to remain resilient even in a challenging macro environment, supported by larger contract implementations, improved reseller traction and strong adoption of the subscription model. The basis of my expectation is the assumption that consumers will maintain their PLM spending to combat supply chain issues and rising raw material costs, as well as increase efficiency savings.
basic demand
From an industry perspective, the automotive sector is booming thanks to increasing momentum in electric vehicle programs and battery development, and the aerospace sector is making a comeback as a backlog needs to be filled and the supply chain and reseller business are more visible. Elsewhere, the biomedical sector is booming, but the manufacturing equipment market is weak. As more people shift their spending priorities to consumer electronics, I expect DASTY will continue to benefit as it attracts more customers from SV.
finance
I think DASTY is handling the move to subscriptions in a way that allows for large-scale up-selling of cloud products, which could result in stronger results than expected. Here’s how I see the numbers: Over the medium term, I expect licenses to grow in the low single digits, but higher organic recurring revenue growth. As such, recurring software sales should account for an ever-increasing share of total revenue (~71% in FY22). The move to subscription pricing, coupled with continued growth in both the core and life sciences markets, will support continued growth in total recurring revenue. Increased personnel expenses in 2022 should impact operating margins in FY23 as these costs carry through to the full year (as such a year-to-year comparison could look a bit poor). After FY23, however, improved margins are expected due to the higher productivity of these hires and the no longer significant increase in hires. However, I would expect some post-FY23 operating leverage to be dampened by the modest impact of the subscription switch and ongoing long-term investments.
As for FCF, I believe the FCF shortfall in 2022 was caused by one-offs, some of which the company says are being reversed, and as such I expect a return to a normalized FCF conversion rate in FY23. In addition, I expect that DASTY’s future balance sheet strength (the business will soon reach net cash) will give the company more flexibility in connection with large M&A deals.
Diploma
I believe DASTY is in a strong position to capitalize on the growing importance of the PLM category and increasing demand in industries such as automotive, aerospace and life sciences. Despite the cautious tone of the topline FY23 guidance, I expect recurring revenue to remain resilient, driven by the rise of large contracts, improved traction from resellers, and strong momentum in subscription growth. While the transition to a subscription model and ongoing investments may impact margins in the short term, I expect improved margins over the medium to long term as productivity increases and the impact of the subscription switch diminishes. In addition, the company’s strong balance sheet provides flexibility for potential mergers and acquisitions. Given DASTY’s strong business fundamentals, cash flow and potential for value-added M&A deals, I recommend a Buy rating on the stock.
Editor’s note: This article covers one or more securities that are not traded on a major US exchange. Please be aware of the risks associated with these stocks.
