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Morningstar | Tableau Firing On All Cylinders Amidst Business Transition; Raising FVE to $90. See Updated Analyst Note from 06 Nov 2018

Though obfuscated by differing accounting standards and the continued transition to a subscription-based business model, no-moat Tableau reported strong underlying results for the third quarter, as well as an auspicious outlook for 2019. The firm continues to benefit from secular tailwinds within the modern business intelligence space, as enterprises seek operational efficiencies and competitive differentiation by empowering their knowledge workers with visualization and analytics tools. The shift to a ratable revenue model continues to occur much faster than management anticipated, and with management providing more color on Tableau’s business mix, we are raising our fair value estimate to $90 per share from $80 to account for more robust top-line growth over the near term. Shares are trading around 9% higher after hours and we recommend investors wait for a wider margin of safety.

Revenue came in at $290.6 million on an ASC 606 basis, representing a 35% year-over-year increase. Management continued to be surprised by the pace of the shift to subscription-based offerings, as the license booking mix of 81% was appreciably above the high-end of the guided range. Subscription annual recurring revenue grew 160% to $362.4 million year over year, offering even more evidence of the business evolution that has took place over the past nine months. While the accelerated subscription transition will stymie operating leverage this year as the firm collects less fees up front, incremental margin expansion was still impressive with adjusted gross and operating margins increasing 60 basis points and 290 basis points to 89.4% and 16.3%, respectively.

Paradoxically, the near-term tailwinds give even more credence to our thesis that the business will be challenged longer term. As the market opportunity grows exponentially, the firm will see heightened competition and pricing pressure from better-capitalized vendors with offerings more deeply embedded within the enterprise.

Management provided preliminary guidance for 2019 that allowed us to garner more color around what the business mix will look like once the subscription transition fully comes to fruition. Specifically, Tableau expects that the license ratable revenue mix will be 90% by the end of 2019. From our vantage point, this suggests that the transition will largely be in the rearview mirror by the end of next year, after which we can expect more normalized dynamics from a growth and operating margin perspective as the business matures. The firm anticipates the type of operating leverage we would expect from a recurring-revenue model in conjunction with an industry experiencing torrid growth. Specifically, management preliminarily guided to revenue of $1.33-$1.4 billion for 2019, which would represent approximately 20% year over year revenue growth based on the current implied ASC 606 revenue for 2018 (the firm will continue to provide guidance on an ASC 605 through the end of this year).

On the product side, the firm is innovating in ways that augment functionality and the flexibility of their deployment options. The company also continues to add customers at a rampant pace, with total customer accounts increasing 26% year over year to 82,000. While the flexibility of a subscription-based business model should make it easier for Tableau to deepen their relationships with new and existing customers through increased usage and seats, we remain steadfast in our belief that the firm will be structurally disadvantaged longer-term. Competing solutions such as Microsoft’s Power BI have been taking share by aggressively undercutting Tableau on price and leading the industry in various frontiers of innovation. In the end, while Tableau may see healthy growth in the near to medium term, we believe customers will ultimately view the firm’s offering as a commoditized point solution within the context of a broader computing environment. This dynamic is already eroding pricing power and will eventually weaken the firm’s burgeoning switching costs. Indeed, these realities form the basis of our no-moat rating for the visualization player.