ROP - Roper Technologies: Great Software Conglomerate Making Another Move

2023-08-24 15:15:17 ET

Summary

• Roper Technologies has made significant changes to its portfolio, including acquisitions and divestments, focusing more on software over time.
• The company's shares hit a high of $500 in 2021 but fell to $370 in 2022 before recovering to the $500 mark.
• Roper recently closed a $1.38 billion deal to acquire Syntellis Performance Solutions, adding to its sales and margins, as a testament to its great capital allocation track record.

On various occasions, typically when Roper Technologies ( ROP ) announces a repositioning or addition to its portfolio, I have been covering this very well run business. My last take on the business dates back to October of last year, when I called the shares still not appealing.

The company announced a substantial deal at the time, after it had been transforming the business in a big way already, with the latest move marking an entrance into education software. Despite a small sell-off in the shares, valuations felt a bit too rich for me to get involved.

Leading Positions In Niches

Roper is generally active in software and engineered product business, holding leading positions in generally niche segments. Running such complex and diversified operations is possible as local management teams are given the freedom to operate and thrive. Moreover, these businesses typically require limited capital spending, making them great assets to own over time, as Roper at large has been focusing more and more on software with the passage of time.

The company has made some larger changes to its portfolio in recent years, largely driven by a $5.4 billion acquisition of Vertafore in 2020, as the company announced some small divestments in the period thereafter, as well as a $2.7 billion divestiture of TransCore.

With shares hitting a high of around $500 in 2021, expectations were rather high. This came after 2021 revenues rose by 19% to $5.79 billion, with earnings reported at $14.18 per share. The company guided for 2022 earnings between $15.25-$15.55, despite some divestments, but needless to say, was that these valuations were sky-high.

Since the summer of 2022, shares have fallen to $370 when I looked at the shares in October. This came as the business actually hiked the guidance in the meantime, as it sold a majority stake in the distribution business in a multi-billion deal, although that meant that pro forma earnings per share were coming down. These resources were quickly reinvested as the company acquired Frontline Education in October, with the K-12 education software platform adding $370 million in sales, although contributing steep EBITDA margins with the EBITDA contribution pegged at $175 million.

Amidst all the moving parts, I pegged pro forma net debt at $5.5 billion, still very manageable, although that earnings were likely seen around $13.50-$14.00 per share, for a 27 times multiple. While Roper was already expensive, due to its great track record, I was fearful of the fact that we find ourselves in a higher interest rate environment and that there were quite some moving parts, making it a bit too early for me to buy the dip yet.

On Fire Again

With the benefit of hindsight, a $370 stock quickly recovered to $430 in November of last year as shares have now recovered to the $500 mark, trading a couple of dollars below those levels today.

In January of this year, Roper announced its 2022 results with revenues up 11% to $5.37 billion, but the reader who pays close attention will note that reported revenues are down, due to divestments as the company reports growth on a comparable basis. Adjusted earnings were reported at $14.28 per share, with EBITDA posted at $2.17 billion.

Net debt was posted at $5.9 billion, a bit higher than the pro forma numbers upon the Frontline deal announcement, but nothing too shocking. The company guided for organic revenue growth between 5-6% and saw full year diluted earnings per share between $15.90-$16.20.

Following a resilient first quarter earnings report , the company hiked the midpoint of the earnings guidance from $16.05 per share to $16.20 per share, hiking the earnings per share guidance by about a percent. The midpoint of the earnings guidance was hiked further to $16.43 per share upon the release of the second quarter earnings report, as these trends propelled the recovery in the shares. Moreover, net debt ticked down to $5.2 billion already, making that net leverage ratios are seen just over 2 times, with EBITDA trending close to $2.5 billion here.

With 107 million shares trading at $500 here, or just shy of that, the company commands a $52 billion equity valuation, for a roughly $57 billion enterprise valuation. This results in a near 10 times sales multiple, with sales trending at $6 billion per annum and shares trading at exactly 30 times forward earnings. This means that the multiple has expanded, driven by the solid operating performance due to the improved positioning, although that a higher interest rate environment raises the bar for all investments, including Roper.

Flexing Its Muscles

Taking advantage of leverage coming down and the strong operating performance, Roper announced another deal in August. The company closed on a $1.38 billion deal to acquire Syntellis Performance Solutions, for a net purchase price of $1.25 billion if we factor in tax benefits related to the deal.

The cloud-based performance management and data solution provider for healthcare, financial institutions, and higher education will be combined with Roper's existing Strata Decision business, as a 15 times EBITDA multiple marks a substantial discount to its own valuation.

With a $185 million revenue contribution and $85 million EBITDA contribution, the effective purchase price at 6.7 times sales marks a roughly one-third discount compared to Roper's own valuation, even as the business posts higher margins, making this look like a fine addition here.

And Now?

The reality is that the latest deal is truly a bolt-on deal, adding about 3% to sales and being accretive to margins and likely organic growth as well. This is very positive, and while pro forma net debt will increase towards the $6.5 billion mark, leverage ratios are still seen in the mid-2s, leaving room for more bolt-on M&A here.

The reality is that at 30 times earnings, valuation remains demanding, certainly as interest rates have only creeped higher, and while certainly a quality name like Roper provides inflation protection, the question is what the right valuation should be at these levels.

Given the track record, this is a very dangerous stock and team to bet against, I find it hard to see appeal here as well, making this one out from the sidelines, despite an apparent excellent bolt-on deal.

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