Summary
- PowerSchool Holdings is a leading provider of cloud-based software/technology to manage administrative functions and learning systems in the education market.
- The company has annual recurring revenue of $596M and a net retention rate of 109%. Switching costs for end-customers appear to be high.
- Multiple avenues of growth are available to PWSC including global expansion and targeting new end-markets.
- Management will need to re-accelerate growth in order to generate long-term compounding returns.
Company Overview
PowerSchool Holdings ( PWSC ) is a software technology company that provides educational management solutions for K-12 schools and districts. The company was founded in 2000 and has its headquarters in Folsom, California, United States. It offers products and services designed to streamline administrative tasks, improve communication between educators, parents, and students, and support student learning and success. PowerSchool's solutions include student information systems, assessment and analytics, and learning management systems. The company is committed to using technology to improve the educational experience for students, teachers, and administrators. The company serves state departments of education, public school districts, charter schools, independent schools, virtual schools, and others.
Investment Case & Competitive Advantages
PWSC’s software-based approach to K-12 school management provides a number of advantages to the company’s customer base. The company’s solutions increase school efficiency by greatly reducing the amount of manual and paper-based administrative tasks the schools must undertake on any given day. More recently, the company has expanded in higher value data, analytics and learning personalization solutions which aim to improve the quality of learning for student populations. PWSC is, therefore, helping school districts and systems reduce costs, while also upgrading the student experience. This combination acts as a powerful value driver for school systems that frequently have constrained budgets. Additionally, PWSC benefits from the following competitive advantages
Strong Market Presence : PowerSchool has a strong market presence and a large customer base, with over 50 million users worldwide and more than 15,000 total customers. This gives the company a competitive advantage in terms of brand recognition and customer loyalty.
Innovative Products : PowerSchool offers a range of innovative and user-friendly products that are designed to meet the changing needs of the K-12 education market. Its solutions are designed to improve administrative efficiency, communication, and student learning outcomes. In recent years, PWSC has spent more than $130M annually to improve its product and solution portfolio. Compared with competitive offerings, PWSC has also worked to build a complete end-to-end educational technology offering which further highlights the value of its solution vs. others.
Strong Partnerships & Product Stickiness : PowerSchool has established partnerships with leading technology companies and educational organizations, which helps the company to stay at the forefront of the industry and provide customers with the best possible solutions. Additionally, once school systems commit to using PWSC’s products and services, there are strong incentives to remain a PWSC customer since switching to other providers would essentially mean moving all back-end workflows to another provider/platform. Such moves are typically time-consuming, costly and intensive tasks.
Financial Stability : PowerSchool is a financially stable company with a strong balance sheet, which provides customers with the assurance that it will be able to continue to invest in its products and services. Evidence of its financial strength can be seen thru annual recurring revenue, which is currently $596M and PWSC’s net revenue retention rate of 109%.
In terms of the overall market opportunity, PWSC has only started to scratch the surface of the total potential. According to industry and company projections, PWSC’s TAM is close to $100B. The company has multiple avenues for growth within the Ed-Tech market and further may consider expanding its operations to global markets down the road.
Investment Risks
Although PWSC has worked to position itself as a market leader within the Ed-Tech space, investors should consider the following risks areas when evaluating a potential investment.
Competition : The education technology market is highly competitive, with many well-established companies offering similar solutions. This competition could lead to price pressure and reduced market share for PowerSchool. Key competitors include
- Blackboard Inc.: A provider of education technology solutions for K-12 schools and higher education institutions.
- Jenzabar Inc.: A provider of software solutions for higher education institutions.
- Infinite Campus: A provider of student information systems and other education technology solutions.
- Skyward Inc.: A provider of school administration software, including student information systems, finance, and HR solutions.
- Illuminate Education: A provider of assessment and analytics solutions for K-12 schools.
Dependence on Government Funding : A significant portion of PowerSchool's revenue comes from government funding, which is subject to budget cuts and other political considerations. This dependence on government funding could impact the company's revenue and growth prospects. Additionally, PWSC’s pricing power may be constrained during times of inflation or other economic distress. The company may not be able to raise prices adequately since it’s dependent on local government budgets and tax revenues.
Technological Obsolescence : The education technology market is rapidly evolving, and PowerSchool may face challenges in keeping up with the latest technological trends and developments. This could result in obsolescence of its products and reduced market share.
Cybersecurity : As a provider of technology solutions for schools and districts, PowerSchool holds sensitive information about students and staff. Cybersecurity breaches tied to PWSC software could result in material liabilities or penalties for the company.
Integration Risks : PowerSchool's solutions must integrate with a variety of other systems used by schools and districts. If the integration is not seamless, it could result in customer dissatisfaction and reduced revenue.
Financial Overview
PowerSchool Holdings has a 20+ year operating history, but only recently went public in 2021. The company has maintained double-digit revenue growth in recent years, increasing sales by 19% in 2020, 28% in 2021 and 13% in 2022 to a total of $630M.
Gross Margins have been stable at 66% of revenue over the last 3 years, while operating margins have decreased from 6% in 2020 to 2% in 2022. The core drivers of this decrease include increased investment in sales and marketing, as well as additional product, research and development efforts. In recent years, SG&A expense growth has outpaced revenue growth by 1.5-2.0x. This will be an important area for investors to continue to watch to ensure management’s growth/expansion thesis remains intact.
On the positive side, free cash flow has been remarkedly stable over the past 3 years. FCF has clocked in at $126M, $177M and $154M respectively. Additionally, the company has over $138M of cash listed on the balance sheet today, proving that PWSC remains in a strong cash position.
From a financial standpoint, watch areas include PWSC’s long-term debt, which currently stands at $730M. Although the company’s debt-to-equity is less than 1.0 today, we’ll be looking to see PWSC continue to pay down its overall balance. Another area to watch is share dilution. Total diluted shares outstanding increased from 158M in 2021 to 199M in 2022.
According to Wall Street analysts, PWSC’s sales will reach $691M this year, before hitting $765M in 2024. Operating earnings are expected to follow suit with EPS of $0.95 in 2023 and $1.07 in 2024.
Valuation & Final Thoughts
PWSC has strong market positioning in the Ed-Tech space, has continued to expand its business and offers a full suite of end-to-end products that help its customers find significant efficiencies. Generally speaking, these are the types of characteristics that lead to long-term success for a company. In some ways, PWSC reminds us of Axon International. Axon became the leading software/technology provider for police departments and law enforcement agencies by providing industry-specific tools and solutions. PWSC has the opportunity to follow a similar path within the education market.
Unfortunately, the current valuation for the stock is a bit stretched and PWSC therefore earns a Hold rating. New investors are not likely to see significant returns at the moment. PWSC has a current market cap of $3.6B and trades at 25.0x projected forward earnings. With multiple expansion to 30.0x against 2024 earnings estimates of $1.07 (roughly $170M), PWSC could reach a market cap of $5.1B. In the current macro environment, however, and with 10% revenue growth projected over the next 2 years, it’s not clear why this multiple expansion would occur. Given these factors, the potential upside price movement appears limited. For PWSC to see a significant valuation increase, the Company would likely need to achieve revenue growth of greater than 25% annually over the next 3 years and management has not laid out a plan to get there at this time. Although PWSC’s TAM is large and the company offers quality products and services that are clearly resonating with customers, the flywheel effect has fully kicked in yet and new customers are not rapidly being onboarded at this time. Until this situation changes, a more cautious buy-in approach with PWSC is recommended to ensure investors an adequate long-term return. If the stock were to fall to a level of $18.00 or less, investors could start to accumulate and expect 10-15% annual returns at current growth estimates. Overall, PWSC is a high-quality company that has the opportunity to build a large moat in the Ed-Tech space, however, the stock is not currently trading at an attractive purchase price.
For further details see:
PowerSchool: Steadily Building A Wide Moat In The Ed-Tech Market