WKME - WalkMe Sees Tepid 2023 Revenue Growth But Improved Operating Loss Reduction

2023-08-11 15:54:43 ET

Summary

• WalkMe Ltd. reported Q2 2023 financial results that exceeded revenue and earnings estimates.
• The company's stock may face challenges in a higher cost-of-capital environment despite efforts to reduce operating losses.
• My outlook for WalkMe is Neutral [Hold] for the near term, but it is worth monitoring as management works towards operating breakeven.

A Quick Take On WalkMe

WalkMe Ltd. ( WKME ) enables enterprises to monitor and analyze online customer engagement via its SaaS Digital Adoption Platform.

The firm recently reported its Q2 2023 financial results , beating both revenue and earnings estimates.

I previously wrote about WalkMe with a Hold outlook.

Although management has taken decisive steps to reduce its operating losses, in a higher cost-of-capital environment, the stock may continue to be challenged.

My outlook on WalkMe Ltd. remains Neutral [Hold] for the near term, but the stock is worth putting on a watch list as management continues to make progress toward operating breakeven.

WalkMe Overview And Market

Tel Aviv, Israel-based WalkMe was founded to develop a SaaS platform for enterprises to maximize their insight into and ability to increase customer engagement across various aspects of their online business.

Management is headed by co-founder and CEO Dan Adika, who was previously a software engineer at Hewlett-Packard Company and a computer programmer in the IDF.

The company’s primary offerings include:

• Unified visibility & insights

• Consistent user experience

• Self-service onboarding, feature engagement, support.

According to a 2018 market research report by Research and Markets, the global customer experience management market is projected to grow to $21.3 billion by 2024.

This represents a forecast CAGR of 22% from 2018 to 2024.

The main driver for this expected growth is the increasing need for personalized customer experience.

Also, as IT infrastructure becomes more complex, organizations continue to seek more unified views into the online activities of their prospects and customers for decision-making purposes.

Major competitive or other industry participants include:

• SAP

• Microsoft

• Oracle

• Salesforce

• Software for specific in-app guidance.

WalkMe’s Recent Financial Trends

• Total revenue by quarter has grown, but operating income by quarter has remained heavily negative:

• Gross profit margin by quarter has trended higher in recent quarters; Selling, G&A expenses as a percentage of total revenue by quarter have remained stubbornly high but have dropped recently.

• Earnings per share (Diluted) have remained substantially negative since the firm’s IPO.

(All data in the above charts is GAAP.)

In the past 12 months, WKME’s stock price has fallen 24.31% vs. that of the iShares Expanded Tech-Software Sector ETF’s ( IGV ) rise of 9.19%, as the chart indicates below:

For the balance sheet , the firm ended the quarter with $250.7 million in cash, equivalents and short-term investments and no debt.

Free cash used in the trailing twelve months ended June 30, 2023 was $21.0 million and the firm spent $1.2 million on capital expenditures. Stock-based compensation for the last four quarters was $54.7 million, the highest such figure in the last eleven quarters.

Valuation And Other Metrics For WalkMe

Below is a table of relevant capitalization and valuation figures for the company:

(Source - Seeking Alpha.)

A potential public comparable to WalkMe would be EngageSmart, Inc. (ESMT); below is a comparison of their financial metrics:

(Source - Seeking Alpha.)

Commentary On WalkMe

In its last earnings call ( Source - Seeking Alpha ), covering Q2 2023’s results , management highlighted its "record positive free cash flow of $5.2 million and 8% FCF (Free Cash Flow) margin two quarters ahead of plan."

In April, the company sought to reduce operating costs by executing a 10% headcount reduction, which management believes will lead to a reduction in operating expenses of $7 million in 2023.

WalkMe was previously awarded FedRAMP Ready status, proving the firm’s ability to meet more stringent security requirements for federal agencies and enabling it to increase its addressable sales market.

The company’s net retention rate for larger customers was 109%, indicating solid sales & marketing efficiency.

Total revenue for Q2 2023 rose 10.5% year-over-year while gross profit margin increased 5.4%.

Selling, G&A expenses as a percentage of revenue fell 17.3% YoY, a positive sign of increased efficiencies and operating losses improved by an impressive 49.2%.

The company's financial position is strong, with substantial liquidity, no debt and positive free cash flow in the most recent quarter.

Looking ahead, 2023 full year revenue growth is projected to be around 5.5% over 2022.

If achieved, this would represent a fall in revenue growth versus 2022’s growth rate of 22.46% over 2021, indicating a flattening growth trajectory.

From management’s most recent earnings call, I prepared a chart showing the frequency of key terms mentioned (or not) in the call, as shown below:

I’m most interested in the frequency of potentially negative terms, so management or analyst questions cited "Uncertain" two times, "Macro" five times and "Drop" once.

Company leadership spoke about the macroeconomic environment headwinds the firm is facing, with increased deal scrutiny by existing customers and prospects.

Regarding valuation, the market is valuing WKME at an EV/Sales multiple of around 1.7x on TTM revenue growth rate of 18% against a median Meritech SaaS Index implied ARR growth rate of 21% ( Source ).

The Meritech Capital Index of publicly held SaaS application software companies showed an average forward EV/Revenue multiple of around 9.3x on July 19, 2023, as the chart shows here:

So, by comparison, WKME is currently valued by the market at a substantial discount to the broader Meritech Capital SaaS Index, at least as of July 19, 2023.

Risks to the company’s outlook include an economic slowdown that may be underway, reduced credit availability which may affect customer/prospect spending plans and lengthening sales cycles which may reduce its revenue growth potential in the near term.

WalkMe’s forward revenue growth trajectory looks to be flattening when compared to the company's growth rate in recent years.

Although management has taken some steps to reduce its operating losses, in a higher cost-of-capital environment, the stock may continue to be punished.

So, my outlook on WKME is Neutral for the near term, but the stock is worth putting on a watch list as management continues to make progress towards operating breakeven.

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