2023-05-16 23:10:42 ET
Summary
- The global construction industry offers a significant opportunity for software companies like Procore to drive digital transformation.
- PCOR's construction management platform is considered best-in-class and is expected to gain market share.
- Given Procore's market opportunity and expectations of the company's ability to realize significant profitability over time, I believe a premium valuation multiple is justified.
Investment Thesis
The global construction industry presents a significant opportunity for software companies like Procore Technologies, Inc. ( PCOR ) to drive digital transformation, particularly with the widespread adoption of mobile devices on construction sites. PCOR's construction management platform is considered best-in-class and is expected to gain market share due to its strong industry expertise and licensing model that encourages collaboration among project stakeholders. Despite challenges in the construction industry, PCOR has continued to grow at a high rate and is well-positioned for the future as well. I believe that the company's current multiple presents a compelling opportunity with the company's fast revenue growth, a substantial market opportunity, and a competitive advantage, providing a setup for stock upside.
Company Overview
Procore Technologies, Inc is a leading company that provides a cloud-based Construction Management Platform [CMP], bringing innovation to the construction industry. The company's CMP acts as a virtual center, connecting different participants and project information and offering a range of software tools tailored for construction projects. With the advancement of mobile devices and fast data connections, Procore has played a crucial role in adapting software solutions to the construction field's on-site nature. Its project management solution enables smooth collaboration between general contractors, specialty contractors, and project owners. Through its CMP, the stakeholders can access project data, engage in scheduling, task management, and share specifications. By utilizing the platform's cloud-based infrastructure, users can conveniently access its features not only from desktop computers in the office but also from their mobile devices, whether they use iOS or Android while working on construction sites.
Robust Q1 Print Amidst a Challenging Environment
Procore had a strong Q1 posting revenue and earnings beat due to the steady demand for construction. Procore gained 601 net new customers in Q1, a healthy 17.8% growth rate but slightly lower than the previous year's gains. Overall, Procore's Q1 performance showed positive signs of growth, profitability, and customer acquisition. However, the management is cautious about the renewal volume commitments for some customers due to uncertain macro conditions. Despite this, I maintain my bullish stance on Procore as it continues to balance growth and profitability while expanding its services to include payments, international markets, and other sectors besides general contractors. Procore has revised its full-year guidance upwards, with expected sales of $908 million - $912 million and an operating margin of (6.5-5.5%), which is 100 basis points higher than the initial guidance given last quarter.
Vast Global Construction Industry Remains Ripe for Transformation
The construction industry globally is responsible for the physical construction and maintenance of various structures, including buildings, infrastructure, and facilities such as homes, offices, roads, and bridges. It comprises different stakeholders, such as general contractors who manage projects, owners who initiate projects, specialty contractors like electricians and plumbers, and design professionals such as architects and engineers. Additionally, suppliers, insurers, and financial services companies play vital roles within the industry. Collaboration and coordination among these stakeholders are crucial for successful construction projects.
According to McKinsey, the construction industry is projected to experience substantial growth, with its value expected to increase from approximately $10 trillion in 2017 to around $14 trillion by 2025. Another report by Global Construction Perspectives and Oxford Economics forecasts construction to grow at a CAGR of 3.9% until 2030, resulting in an industry value of around $15 trillion. However, despite this immense market potential, the construction sector currently spends only about $12.4 billion per year on application software. This represents a small portion of the overall construction expenditure, despite the significant value that digital transformation, including Procore's platform, can offer. Procore estimates that its current products have an annual potential market opportunity of $9.4 billion, considering their currently addressable geographies.
Digitization has the potential to bring numerous benefits to the construction industry, including enhanced collaboration between stakeholders and improved expense tracking, among others. However, the industry has traditionally been slow to adopt modernization due, in part, to the challenges of implementing software solutions in field-based construction environments. As a result, construction ranks as one of the least-digitized industries globally, second only to agriculture and hunting, according to McKinsey's Industry Digitization Index. Procore identifies this as an opportunity and believes that 50% of its market potential lies in replacing analog processes and spreadsheets with digital solutions.
A Pioneering Solution for the Construction Industry
The widespread adoption of smartphones among construction workers (a JBKnowledge survey revealed approximately 93% of construction workers reported using smartphones daily) opened up opportunities for software vendors to cater to construction stakeholders regardless of their physical location. The construction industry presents an attractive market due to its substantial size, relatively low levels of digital penetration, and the potential for software to revolutionize its operations. Construction projects are typically complex, involving customization, ever-changing specifications, and intricate relationships among stakeholders with different priorities. Software solutions can play a crucial role in organizing schedules, managing and sharing designs, creating feedback loops, enhancing safety measures, and streamlining financial tasks, thus preventing project delays and ensuring all stakeholders stay updated with the latest developments. With labor shortages being a challenge in the construction market, improved communication through digitization can boost the productivity of existing resources. Furthermore, the abundance of construction data presents opportunities for advanced insights through artificial intelligence, such as historical analysis for better forecasting.
Procore's Construction Management Platform offers a wide range of functionalities to various construction industry stakeholders, including general contractors, owners, and specialty contractors. The platform aims to replace or enhance existing workflows, delivering significant efficiency benefits and promoting alignment among project participants. Procore provides customers with 13 distinct product offerings, covering areas such as preconstruction, project management, resource management, and financial management. A key advantage of Procore's platform is its ability to offer all these functionalities through a single, integrated cloud-based platform. This approach ensures a seamless and user-friendly experience for individuals accessing the platform from different settings, be it the office, while travelling, or on a construction site. The flexibility of Procore's platform accommodates the diverse needs of construction professionals across various work environments.
I believe PCOR stands out in the market due to several key factors. Firstly, it possesses extensive expertise and a strong reputation within the construction industry, leading to high brand awareness. Secondly, it offers a best-in-class project management solution with powerful features, setting it apart from competitors. Thirdly, PCOR's cloud-based platform serves as a unified system of record, providing a seamless user experience. Additionally, the company is known for its exceptional user support, ensuring customer satisfaction. Its widespread customer licensing approach promotes collaboration among project stakeholders. PCOR is continuously expanding its offerings with complementary tools such as financial management and analytics capabilities. The well-supported App Marketplace further enhances the platform's functionality. Lastly, PCOR has demonstrated an effective merger and acquisition strategy, driving its growth and market presence.
Valuation
PCOR trades at a forward EV/Sales multiple of 7.7x, roughly in line with the industrial software comp group. PCOR is by far the fastest-growing name within the sector and is still expected to grow meaningfully faster than enterprise software as a whole despite a currently difficult operating environment. Given that it is still at a relatively early stage of its opportunity, I expect it to continue to outperform the broader software market for the foreseeable future and possibly re-accelerate as the current industry-wide headwinds abate over time.
With the consensus expecting revenue growth of ?22% in FY 2024 (higher than its peers in the sector), I believe that the stock deserves a more substantial premium to the group. I calculate a fair value of $78 for the stock derived from an EV/Sales multiple of 10x and an FY24 revenue estimate of $1.1 billion. Given my favorable long-term view of PCOR's market opportunity and expectations of the company's ability to realize significant profitability over time, I believe a premium is justified.
Risks
The construction industry faces ongoing challenges, such as rising material and labor costs, which persist for an extended period. In this environment, customers are leaning towards Autodesk, Inc.'s ( ADSK ) comprehensive offerings that cover construction, computer-aided design [CAD], and building information modeling ((BIM)) rather than incorporating another vendor like Procore into their portfolio. Procore's international expansion strategy encounters difficulties, while its competitor Autodesk already possesses robust distribution networks and well-established customer relationships on a global scale.
Investors' Takeaway
The global construction industry offers significant potential for software companies like PCOR to lead the digital transformation, especially with the widespread use of mobile devices in construction sites. PCOR's construction management platform is highly regarded and poised to capture a larger market share due to its deep industry expertise and collaborative licensing model. My price target is derived from an assumed forward EV/Sales multiple of 10x. I believe that the premium is warranted due to PCOR's higher near-term growth, its substantial market opportunity, and its strong competitive position.
For further details see:
Procore: Current Levels Provide A Compelling Opportunity