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Morningstar | Workday Continues to Execute; Raising our FVE to $152 per share; Shares Fairly Valued. See Updated Analyst Note from 04 Sep 2018

Workday reported solid second-quarter results for its fiscal 2019 and we are raising our fair value estimate to $152 per share, from $141 previously, and maintaining our narrow economic moat rating. As a reminder, in June, Workday acquired Adaptive Insights, a cloud financial planning and analysis tool, for about $1.55 billion with the acquisition closing in August. We note that Gartner identified Adaptive Insights as a leader in this space, benefiting from ease of use and integration capabilities. Workday refrained from providing supplementary financial guidance for its fiscal year at the time of the acquisition, but this quarter, we received some additional insights. The firm raised full-year guidance for its subscription segment to $2.341 billion to $2.348 billion and we track near the high end of those estimates. Current guidance includes a $42 million contribution from Adaptive Insights. Overall, while we continue to believe Workday is supported by strong switching costs, creating a narrow moat, we see shares as fairly valued at this point and we would urge investors to await a pullback before jumping into this name.

Workday hit some notable metrics this quarter, reporting that 35% of the Fortune 500 and 50% of the Fortune 50 utilize Workday for core HR. However, the firm reiterated on its conference call that it is no longer just an HCM vendor, as HCM only accounts for 25% of the firm's total addressable market due to the immense TAM for its financial management tools. For the quarter, financial management had 60% new customer growth. With Adaptive Insights, Workday's plan is to both offer the tool as a stand-alone product or an add-on in the firm's enterprise resource planning suite. We applaud the firm for its incremental investments in ERP, which have paid off. We think there is credence to the idea that enterprises are becoming more comfortable with a cloud-based financial management tool, benefiting Workday.

For the quarter, Workday's adjusted EPS of $0.30 per share, sat modestly above our expectations. Taking a long-term view, we think sustained growth from Workday's financial management suite, aided by Adaptive Insights, will allow the firm to surpass $10 billion in revenue in the next 10 years. We give the firm credit for GAAP operating margins approaching 35% over that same time frame. However, even with aggressive revenue and margin expansion assumptions, our fair value still tracks near where Workday's shares are currently trading.