Tuesday, October 9, 2012

Autodesk Earnings Analysis

Investors in Autodesk $ADSK must be dreading earnings seasons after the company came out and disappointed for the second quarter in a row. Revenues were below estimates and the guidance was horrible. As ever, the thing that investors should be doing is staying calm and objectively assessing the investment proposition as it stands now.

In this article, I will try and look at the underlying themes. In summary, the management make a strong case for the problems being temporary ones relating to the restructuring of the sales force. But despite this, I think there are also reasons to suggest that this is also a consequence of macroeconomic weakness.

Autodesk Earnings

A quick summary:

  • Revenues of $569 million vs. estimates of $593 million and internal guidance of $580-600 million
  • Non-GAAP EPS of $0.48 vs. estimates of $0.49
  • Q3 Revenue guidance of $550 million-$570 million vs. estimates of $601 million
  • Q3 EPS guidance of $0.40-$0.45 vs. estimates of $0.50
  • Full Year revenue guidance of $2.3 billion-$2.35 billion vs. estimates of $2.43 billion

It’s the second quarter in a row where guidance has been lowered and this time around the company was quick to point to the realignment of its sales structure as being the reason, rather than macro economic weakness. In support of this thesis, management outlined that demand generation activities failed to have the desired effect, and sales appeared to fall off a cliff in June. In addition, AutoCAD/AutoCAD LT sales (which were the hardest hit in the 2008-09 recession) were pretty good with revenues up 12%. This suggests that this is more of an internal issue than a macro economic one.

The planned response is to implement cost cutting measures and accelerate the transition into cloud and mobile computing. The idea is that traditional Autodesk sold solutions in stand-alone ‘flagship’ products, whereas going forward (and in line with the changes in the sales structure), it wants to increase sales in "suites" which bundle together various solutions. Rather disappointingly in this quarter, the share of revenue from suites actually declined one point to 28% and flagship revenues share increased to 57%. Go figure!

So the case for this being largely an internal issue-which could be resolved in a quarter or two- is a good one, but I'm not fully convinced.

Macro Environment Also A Factor

In the last quarter, Europe (the biggest single region for Autodesk) was described as variable, and Brazil and India were a bit ‘weak’. This quarter, Central Europe, Brazil, and India were cited as the key weak spots. I don’t think this is a coincidence. Moreover, the failure to beat internal guidance is an unusual event at Autodesk and the trends are starting to look a lot like 2009.

I’ve circled the latest miss and the start of the difficulties in 2009.

In addition, given the strength of the exposure in Europe (where everyone else is citing weakness) and the very weak performance of the manufacturing vertical it’s clear that macro factors impacted results a lot. Similarly, Brazil and India are both regions experiencing a moderation in growth prospects.

Where Next For Autodesk?

There are three alternate polemic views here. The first is that this largely due to the sales restructuring and will get sorted out in a quarter or two. This sort of thing has been happening this year. For example, Riverbed Technology $RVBD managed to successfully demonstrate that its previous earnings misses where largely a result of its sales force getting used to new products and sales approaches. Similarly, Cree $CREE argued that its lighting division had been weak due to a realignment of its sales agents. It, too, reported a recovery in its recent earnings.  If this holds true with Autodesk, then the stock is extremely attractive right now. Investors who like this sort of "special situation" investing may well find this argument compelling.

The second is that this is largely the impact of macroeconomic weakness disproportionately hitting Autodesk. If so, then Autodesk is likely to have more problems going forward. Chinese PMI data is weakening, and relying on China stimulus spending is a game fraught with uncertainty. In addition, Autodesk has been increasingly relying on emerging markets for its growth, and I think this is the one area that could surprise the market on the downside in future quarters.

The third view is that the problem is largely due to some customer resistance to the transition towards cloud computing and mobile solutions. Again, this is an issue that can be sorted out and we should note the ongoing plan to accelerate investment in this area.

In conclusion, there are a lot of moving parts here, but the second explanation is the scenario that offers the worst prognosis. In other words, if the macro environment does start to look better than Autodesk is well worth looking at down here. Execution issues can be resolved, sales forces can be realigned, and the evidence suggests that companies that shift to cloud based solutions do generate better operational efficiencies and top line growth. That said, this is not a stock for those cautious on the macro environment and particularly within emerging markets.

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