SAPGF - SAP SE: Qualtrics Disposal Accelerates The Turnaround

2023-04-12 05:08:24 ET

Summary

• SAP has agreed to exit its controlling stake in Qualtrics for a hefty premium.
• While the Qualtrics exit removes a growth avenue, it also enhances the margin profile and alleviates a large portion of the stock comp drag.
• With SAP poised to beat its mid-term earnings target, the path is clear for more upward revisions at next month’s AGM.

SAP SE’s ( SAP ) recently accepted offer for Qualtrics International ( XM ) by Silver Lake and the Canada Pension Plan Investment Board (CPPIB) will be well-received by investors. The offer, valuing Qualtrics at a rich >60% premium to the pre-deal closing price, also implies a ~$7.7bn fully diluted valuation for SAP’s stake (~7x fwd EV/Sales). With the transaction facing few hurdles ahead of an H2 2023 close, the recent stock price rally seems justified given the optionality offered by the disposal proceeds and the potential margin uplift. Also positive for shareholders is the removal of Qualtrics' ~EUR1bn contribution to SAP’s guided ~EUR2.7bn stock-based compensation in 2023. Over the mid to long-term, the turnaround of the cloud business also remains on track, with the path toward a margin recovery accelerated post-sale. The current ~18x fwd P/E seems reasonable relative to an expected 2025 earnings power of >$5/share. Alongside the expanded shareholder return capacity post-Qualtrics disposal, SAP stock is worth a look here.

Unlocking Value with the Qualtrics Stake Disposal

SAP’s journey with Qualtrics started with a 100% acquisition in November 2018 for $8bn to enhance its positioning in ‘Experience Management’ (a sub-segment of the relationship management segment focused on gathering customer/employee insight). The company subsequently secured a partial exit via a public listing in 2021 at an $18bn equity valuation and has now agreed to dispose of its remaining majority stake to Silver Lake, CPP Investments, and affiliated funds. The $18.15/share price tag equates to an equity value of $12.5bn on a fully diluted basis or a sizeable >60% premium to the pre-deal closing price (or an >70% premium to 30-day VWAP). In effect, the sale will lead to an influx of ~$7.7bn in cash to SAP, the equivalent of a low-single-digits % of its market cap. As the deal is subject to mainly customary regulatory clearances, the transaction should complete in H2 2023. SAP will also book Qualtrics as a discontinued operation in its upcoming financial results for Q1 2023.

A Timely Cash Injection with Positive Financial Implications

At a >60% premium, SAP has done a good job by shareholders, and the offer price clearly maximizes value. While SAP will be giving up Qualtrics’ extensive customer base, growth potential (per management, a ~$60bn ‘Experience Management addressable market opportunity), and its control position, the implied fwd EV/sales multiple of ~7x against a backdrop of rising rates and declining tech valuations means management has got a good deal here, in my view. The ~EUR7.7bn of net proceeds also amount to a low-single-digit % of SAP’s market cap, paving the way for increased shareholder return optionality or M&A-driven growth going forward. So all else being equal, SAP should have no problems getting to net cash by year-end (vs. the EUR2.1bn net debt position in 2022).

Also worth taking into account is the positive impact on SAP’s P&L from de-consolidating Qualtrics. Relative to the current ~10% contribution to SAP’s cloud revenues, losing Qualtrics should mean a modest dilution to the overall group revenue growth profile. Yet, the ex-Qualtrics cloud segment growth profile remains strong, particularly SAP’s flagship cloud core financial management enterprises suite S/4HANA, which grew at +90% YoY in Q4. Perhaps more significantly, though, the disposal will be accretive to the operating margin profile near-term – Qualtrics posted a high-single-digits % operating margin vs. SAP’s low-double-digits % in Q4. For shareholders, the removal of a large chunk of SAP’s share-based compensation will be a relief, given Qualtrics’ ~EUR1bn drag (vs. SAP group-level ~EUR2.7bn share-based compensation guidance for 2023) had been a key component of the valuation bear thesis.

Potential Governance Catalyst Heading into Next Month’s AGM

The disposal announcement comes on the heels of SAP nominating former Deloitte executive Punit Renjen for election to the Supervisory Board as the successor to current Chairman Hasso Plattner. Alongside new CFO Dominick Hassam’s arrival earlier last month, this paves the way for an update on the company’s mid-term targets at the upcoming annual general meeting ((AGM)). And given SAP is already ahead of plan, an upward revision to its 2025 numbers is likely on the cards, possibly as soon as H1 2023.

Over the long-term, Mr. Renjen’s experience at Deloitte will add not only valuable insight on the enterprise software side but also positive changes to the governance. On the latter point, potential areas of improvement include better alignment of executive compensation with shareholders, as well as the inclusion of non-financial objectives in incentive plans. Alongside the governance enhancements, the upcoming AGM could also catalyze higher shareholder returns following the cash influx from Qualtrics (via buybacks or dividends).

Qualtrics Disposal Accelerates the Turnaround

SAP’s disposal of its Qualtrics stake was rightly met with a re-rating of its stock. Valuation-wise, the deal comes at a hefty >60% premium, implying an attractive ~7x 2023 EV/Sales multiple and a fully diluted ~$7.7bn price tag. The disposal proceeds also create attractive optionality on the capital return and M&A front, margin tailwinds, as well as a ~EUR1bn cut in overall share-based compensation. With the cloud business turnaround also accelerating toward a first year of margin recovery (ahead of management targets), expect strong profit growth and an increasingly predictable revenue mix to support further upside. Relative to the >$5/share of mid-term earnings power, the stock trades at a very reasonable ~18x fwd PE and has ample room to re-rate heading into the AGM in May.

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