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Morningstar | Guidewire Delivers Beat For Fiscal 1Q, But Outlook Drives Shares Lower; Maintaining FVE

Guidewire reported a solid fiscal first quarter, exceeding guidance as well as consensus expectations on both the top and bottom lines. While the numbers were somewhat obfuscated by a change in accounting standards which causes previously ratable revenue to be recognized up-front, the results indicated strong underlying demand. The firm cut revenue guidance for the full year, as some cloud deals are taking longer to close than management anticipated. Still, we remain confident in the firm’s ability to maintain its footprint as well as expand existing relationships across multiple touchpoints with their cloud platform. Thus, we will maintain our wide moat rating, as well as our fair value estimate of $114 per share. On a day where negative macroeconomic sentiment had already pushed the broader market downwards, the news drove shares even further into four-star territory. We view current levels as exceedingly compelling.

Revenue came in at $179.7 million, representing year-over-year growth of 66%, driven by a 210% uptick in license and subscription revenue to $94.3 million.  Adjusted operating margin was 17.6%, versus minus 7.7% in the year prior. We expect margins to widen as cloud and subscription adoption ramps, though there will be fits and starts along the way.

Guidewire now expects fiscal 2019 revenue to be in the range of $722-$732 million, versus a range of $740.5-$752.5 million previously. Management’s initial fiscal 2019 guidance assumed faster deal closure for a few of their InsuranceSuite cloud deals. The revenue guidance cut was driven by decreased expectations for services revenue, as the pushbacks in deployment also mean a delay in the recognition of revenue the firm accrues for assisting with implementation. While we would have expected Guidewire’s years of expertise to facilitate a level of foresight and prevent management from overshooting guidance, we are not shocked by the delays, given the labyrinthine nature of insurance regulations.

The firm sold no perpetual licenses in the quarter, reflecting continued secular demand shifts. Enterprises, including P&C insurers, are increasingly wanting IT applications across the software stack to be services delivered reliably and flexibly, in lieu of static tools that require hardware provisioning and maintenance.

During the quarter, Gartner recognized Guidewire as a leader in their first Magic Quadrant for Non-Life Insurance Platforms in Europe. This did not come as a surprise to us, and we believe it speaks to the success the firm has achieved thus far with its expansion into Europe. As the firm continues to build its repository of referencable customers and domain expertise regarding the idiosyncrasies of that marketplace, we see a broadening of the company’s intangible assets moat source and strengthening of its competitive positioning.

From our vantage point, the delays, and more importantly the byzantine negotiations surrounding various system requirements and security protocols, lend credence to our thesis on Guidewire’s structural advantages. The multiple steps involved before these solutions can be deployed in earnest speak to high switching costs, and the confluence of these switching costs with Guidewire’s incumbency as a leading P&C insurance platform undergird our wide moat rating.