Constellation Software, Inc (TSE: CSU) recently acquired Altera (Allscripts' Hospitals and Large Physician Practices business segment), which helped it beat analyst expectations in Q3. CSU revenues grew 33% Y/Y, and profit rose 18% Y/Y. GAAP EPS of $6.42 beat FactSet consensus estimates of $5.66, and sales of $1.725bn beat estimates of $1.724bn.
What Does Constellation Software Do?
Constellation Software, Inc is a diversified Canadian software company serving the public and private sectors. CSU is based in Toronto, Canada, and is listed on the Toronto Stock Exchange (TSE). The company was founded by former venture capitalist Mark Leonard.
Constellation Software, Inc. is made up of multiple businesses it has built and acquired over the years. Generally, these businesses provide mission-critical software solutions to the customers they serve. This includes government and government-related customers in the public sector and commercial customers in the private sector.
Total Revenue: $1.73bn (up 33% Y/Y)
Net Income: $136m (up 28% Y/Y)
Completed Acquisitions: $268m ($207m in cash + $61m deferred)
Cash Flow from Operations (CFO): $321m (up 10% Y/Y)
Free Cash Flow (FCF): $229m (up 1.3% Y/Y)
How Does Constellation Software Make Money?
Constellation Software makes money from software license fees, maintenance and other recurring fees, professional service fees and hardware sales.
Software license revenue includes multi-year licensing. Maintenance revenue reaps both one-off and recurring fees. The company also sells third-party hardware as part of its customer solutions and customized hardware sales.
Constellation's customers typically purchase a combination of software, maintenance, professional services, and hardware solutions. But the type, mix and quantity vary by customer and product.
What are Constellation Software's Costs?
Constellation's expenses include staff, hardware, third-party licenses, maintenance, professional services, travel and occupancy costs, depreciation, and other general operating expenses.
Operating in foreign jurisdictions puts Constellation Software at a disadvantage regarding foreign exchange (Forex) rates which affect its revenue growth.
CSU Stock Financials
Over the past year, the CSU share price has fluctuated between a low of CA$1,783.98 and a high of CA$2,385.80. Today Constellation Software stock trades at around CA$2,045.68.
Seven FactSet brokers have a consensus Overweight rating on CSU stock with a target share price of CA$2,313.44 ($1,737.99).
Constellation Software Growth Potential and Risks
Growth through M&A is critical to Constellation Software's development strategy as it opts to acquire, manage and build software businesses. The company acquires businesses with growth potential and aims to manage and build them well.
This M&A strategy has allowed Constellation Software to generate significant cash flows and revenue growth in recent years.
The government Tax Cuts and Jobs Act has led Constellation to incur higher taxes, and foreign exchange headwinds are also a consideration. Inflation is an ongoing concern, as are challenging macroeconomic conditions in certain jurisdictions.
The company is increasing its debt to afford it the opportunity to make larger acquisitions than previously conducted. This is potentially a riskier path to follow, but management clearly has confidence in Constellation Software's ability to buy and scale bigger businesses. It has certainly proved its ability to grow from making smaller acquisitions in recent years.
Is CSU Stock a Good Investment?
The Constellation Software share price chart shows an impressive upwards trajectory from going public in 2006 to the end of 2021, rising an incredible 12,930%!
2022 has been a more challenging year for the company, with the CSU share price seeing considerable volatility and a -12% drop between January and November. This is a poorer performance than the S&P/TSX Composite Index, which is down -6% in the same period. The S&P/TSX Composite Index is the Canadian benchmark index, representing roughly 70% of the total market capitalization on the Toronto Stock Exchange.
Yet CSU stock has still fared better than the S&P500, which is down -17.5% during the same period. Constellation Software's stock performance also beats the iShares Expanded Tech-Software Sector ETF (IGV), which is down -32.4% YTD. IGV tracks a market-cap-weighted index of US and Canadian software companies.
The company's CEO, Mark Leonard's background in venture capital, appears to have served him well. The company's ongoing M&A strategy is likely to keep Constellation Software growing at scale and could well continue to bring shareholder wealth to CSU stockholders.
Nevertheless, CSU's financial metrics show the company could be overvalued.