Summary
- PWSC posted a robust 4th quarter NRR of 109% due to price hikes, cross-selling success, and robust gross retention.
- PWSC still has a massive cross-sell opportunity and international expansion is also still in the early stages.
- PWSC is expanding its TAM through partnerships with OneConnect and channel partners.
Thesis
Due to price hikes, cross-selling success, and robust gross retention, PowerSchool Holdings ( PWSC ) posted a robust 4th quarter NRR of 109%. I believe PWSC has a long way to go before it fully capitalizes on the potential of Unified Insights (>50% growth), given the fact that the company has only just begun to scratch the surface of the market. I also think it's important to point out that schools can realize a substantial ROI from PWSC's partnership with Snowflake (which is part of the Unified Insights product portfolio), when schools adopt multiple modules. Adoption metrics, more importantly, have been very strong. PWSC saw a 30% y/y increase in ARR from customers with four or more products, and over $100 million in ARR from customers with seven or more products. PWSC, in my opinion, still has a lot to gain from the predictability of K-12 end market spending.
Therefore, I continue to hold a positive outlook on PWSC, as I believe the long-term growth opportunity is attractive, particularly given the company's massive cross-sell opportunity and its international expansion, both of which are still in the early stages. My opinion of PWSC hasn't changed: I still think it's a great investment because of the company's track record of success and its exposure to the stable K-12 end market, where there's room to grow margins.
4Q22 results
PWSC's 4Q22 revenue came in at 1% below consensus and EBITDA margin at 2 points above. Forecasted revenue for 1Q22 is also 3% lower than market expectations. Weakening services revenue is the primary contributor to the revenue shortfall in both 4Q22 and 1FQ23E as a result of the postponement of a sizable deal. For FY23, the company expects revenues to be 1% lower and EBITDA to be 3% higher than expected.
Cross-sell opportunity still good
Among the persistent arguments made by bears for PWSC is the idea that market penetration for PWSC has peaked. I get the bear thesis logic, in that PWSC has already reached a saturation level of over 80% of K-12 students in the US and Canada at the district level. However, PWSC results keep disproving this bear thesis. PWSC's ability to cross-sell to its existing customer base has been showing signs of strength, as evidenced by the NRR, suggesting that the company can continue growing at a rate of more than 10%. Specifically, 4Q22 marked the fifth consecutive quarter of growth in PWSC's NRR, which reached a new high of 109.1%. Although I anticipate quarterly fluctuations in NRR, I find great comfort in management's guidance that the metric will be around the high 109% range in FY23. Also importantly, even though 40% of PWSC's customers now use two or more products, cross-selling efforts are still in their infancy.
Partnership with OneConnect
I appreciate how management is concerned about growing their TAM as PWSC core market nears saturation. For instance, PWSC and OneConnect recently announced a partnership aimed at expanding the former's clientele in Africa. The partnership is anticipated to bring over 500,000 students in Africa to the PWSC platform next year. On the point of expanding TAM, PWSC's channel partners also provide services to students in India, the Philippines, and Uruguay, and management has ambitious plans to rapidly expand this program in FY23, including the opening of an office in Dubai by the spring of FY23. Despite the fact that the percentage of total revenue coming from markets outside of North America is currently in the low single digits, I expect this segment to rapidly expand in the coming years.
Growth and contracts win
I believe PWSC has further cemented its position as a market leader. In 4Q22, PWSC secured a 5-million-dollar-per-year contract with the Alabama State Department of Education to provide Unified Insights services across the state. In addition, management highlighted successful partnerships with the Los Angeles and Philadelphia school districts.
Conclusion
In my opinion, PWSC is a true platform because it offers the most comprehensive suite of K-12 software applications on the market. Considering PWSC's large customer base, the opportunity to cross-sell is substantial, and the company's ability to integrate back-office solutions with classroom applications is a major point of differentiation. My recommendation is to buy PWSC.
For further details see:
PowerSchool Holdings: Long-Term Outlook Remains Positive