EUR 850.00 For Business Accounts Only

Morningstar | Tyler Technologies Helps Federal, State, and Local Governments Run More Efficiently; $247 FVE. See Updated Analyst Note from 20 May 2019

We are initiating coverage of Tyler Technologies with a wide moat rating, stable moat trend rating, and a $247 fair value estimate, and we view the shares as modestly undervalued today. We see Tyler as the clear leader in a slow-moving and underserved niche market of government operational software. We believe there is a decadelong runway for 10%-plus revenue growth at Tyler, given the need to modernize local governments’ legacy enterprise resource planning systems and the firm's strong position in this market. Scaling software-as-a-service revenue should also help drive margin expansion over time, even if it pressures near-term profitability. The shares have gradually rerated since the 2008 downturn as local governments slowly normalized after the recession, subscription revenue has grown in the mix, e-filing has rapidly materialized into a significant opportunity, and deal sizes have grown.

Tyler addresses the needs of cities, counties, schools, courts, and other local government entities. It two core products are Munis, which is the core ERP system, and Odyssey, which is the court management system; together they constitute two thirds of revenue. These systems enable normal operations of governmental institutions, including financial management, human resources, revenue management, tax billing, and asset management. Per management, existing core systems at customer sites are at least 20 years old and running on ancient software code where there is no next wave of incoming COBOL- and Fortran-fluent programmers to keep these systems running. We believe extending the life of these legacy systems is no longer tenable.

While the company used to fight for every small deal, it now has established enough of a reputation in the government market that it is called upon in most relevant government system searches. The potential clients have grown larger, as evidenced by statewide e-filing and court management system deals that can be worth upward of $10 million annually. Further, Tyler benefits from a fragmented market that includes no companies anywhere near its size or scale that are focused on the local public institution market.

We also believe that while upselling may not be as critical for the company as it is with for other software stories, Tyler’s product depth and leadership should ultimately drive upselling on a larger scale. For example, once a large city adopts a Munis ERP system, over time this should ultimately drive the central school district, court system, police system, jail system, and property tax appraisal to select Tyler as well. The 2018 Socrata acquisition for data and analytics has introduced federal customers to Tyler and is an obvious upselling opportunity across the entire portfolio. We have begun to see evidence of this in recent quarters.

Gartner estimates the market for Tyler is $30 billion, growing at 7% annually, while Tyler pegs the total addressable market at $18 billion. The market for local and regional governments and related public institutions such as court systems, police departments, and school districts is best characterized as slow moving with woefully inadequate core software to drive modern features and efficient functionality. There are more than 88,000 local governments with more than 450,000 potential systems. While management notes most wins replace green screens, homegrown systems, and unsupported software, the company still wins more than 70% of competitive situations.

Local competitors and homegrown solutions dominate the landscape for county, municipality, and local public institutions. These software providers and solutions have been ceding share to Tyler for years, especially since the 2008 downturn, which ultimately forced some competitors into bankruptcy, including AmCad in 2013. AmCad was one of the largest court management system competitors after Tyler. Further, Tyler’s NWS acquisition eliminated a large competitor on the governmental ERP side and provided the company with a public safety software suite. Larger horizontal companies like Oracle and SAP have a presence in the public sector, though these tend to be at the larger end of the market. With the acquisition of Socrata for its open data solutions, Tyler finds itself serving the federal government for the first time. We therefore believe it is inevitable that additional software opportunities within the U.S. federal government will arise for the company.