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Morningstar | Blackbaud Reports in Line 1Q; TAM Opportunity Remains Attractive; Shares Modestly Undervalued

Blackbaud reported an in line first-quarter result, and management reiterated its full-year 2019 guidance. We continue to see the firm’s ongoing shift toward recurring revenue, and its recurring revenue in the first quarter constituted 92% of total revenue. Following on from the end of last year, the firm also saw deceleration in the one-time revenue line, which indicates the success of the transition toward recurring business. However, this transition will be a short-term growth headwind in our view. Management addressed the acquisition of Salesforce.org by Salesforce.com during the call saying it wasn’t surprised by the move and that Blackbaud’s very specific vertical software products often didn’t see Salesforce as a competitor in many of its fragmented markets. We agree with management’s views on Salesforce (we also published a note on this topic on April 16) and think the firm’s growing $10 billion total addressable market, or TAM, remains up for grabs. With our financial and strategic outlook unchanged after the quarter, we maintain our $87 fair value estimate on this wide economic moat company. Although shares are in 3-star territory, we believe the stock is still trading at a fair discount and could be attractive to wide-moat-seeking technology investors.

For the quarter, total GAAP revenue rose 5.7% year over year to $215.8 million. GAAP recurring revenue increased 9.5% to $198.1 million, while one-time services and other revenue slid 24% to $17.7 million. We expect Blackbaud’s recent heightened investment in its sales organization to help drive the firm toward making inroads in its underpenetrated TAM (the firm's revenue proportion is seen as less than 10%) and view fiscal 2019 as an investment year for the long term. We continue to view the firm’s integrated and open cloud solutions strategy as a winning one and think the firm’s cloud-based recurring business model will benefit shareholders via long-term revenue growth and user retention.

On the margin front, non-GAAP operating margins fell 450 basis points year over year to 16.6%. The margin deterioration was largely due to increased investment in product development and the firm’s significant ramp in sales hiring that began toward the end of last year. As these investments pay off, we do expect margin expansion as Blackbaud’s software-as-a-service model matures and operating leverage materializes.