2023-08-17 16:33:26 ET
Summary
- Qualys, Inc. recently reported Q2 2023 financial results, beating revenue and EPS estimates.
- The company offers IT security software and services to enterprises globally.
- Qualys is experiencing slowing sales cycles, reduced net revenue retention, and the stock is highly-priced.
- I remain Neutral [Hold] on Qualys, Inc. stock for the near term.
A Quick Take On Qualys
Qualys, Inc. ( QLYS ) reported its Q2 2023 financial results on August 3, 2022, beating both revenue and EPS consensus estimates.
The company provides a wide range of IT security software and related services to enterprises worldwide.
I previously wrote about Qualys in mid-2022 with a Hold outlook.
Qualys, Inc. management is seeing slowing sales cycles, reduced net revenue retention, and the stock appears highly-priced.
I remain Neutral [Hold] on Qualys for the near term.
Qualys Overview And Market
Foster City, California-based Qualys, Inc. was founded in 1999 to create an integrated platform that provides organizations with a holistic view of their IT applications for monitoring, security and compliance purposes.
The firm is headed by president and CEO Sumedh Thakar, who has been with the firm since 2003 and was previously a software engineer at Intacct and Patni Companies.
The company’s primary offerings include:
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Infrastructure security
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Endpoint security
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DevOps
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Compliance
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Web app security.
The firm acquires customers through direct sales efforts for large customers as well as through a robust partner program including resellers, consultants, integration partners and managed service providers.
According to a 2020 market research report by Grand View Research, the global market for cybersecurity software and services was an estimated $157 billion in 2019 and is expected to exceed $300 billion by 2027.
This represents a forecast CAGR of 10.0% from 2020 to 2027.
The main drivers for this expected growth are constantly changing cyber threats against a backdrop of more complicated consumer and enterprise software requirements and infrastructures.
Also, the transition of enterprise IT from on-premises to the cloud will create significant new opportunities for new services and capabilities.
Below is a chart showing the historical and projected U.S. cybersecurity market dynamics by component:
U.S. Software Security Market (Grand View Research)
Major competitive or other industry participants include:
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CrowdStrike
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Rapid7
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Tenable
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VMware
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McAfee
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Symantec
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Microsoft
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Palo Alto Networks
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Others.
Qualys’ Recent Financial Trends
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Total revenue by quarter has continued its growth trajectory; Operating income by quarter has turned up in recent quarters.
Total Revenue and Operating Income (Seeking Alpha)
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Gross profit margin by quarter has turned higher recently; Selling and G&A expenses as a percentage of total revenue by quarter have trended lower.
Gross Profit Margin and Selling, G&A % Of Revenue (Seeking Alpha)
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Earnings per share (Diluted) have moved higher in recent quarters, as the chart shows below:
Earnings Per Share (Seeking Alpha)
(All data in the above charts is GAAP)
In the past 12 months, QLYS’s stock price has fallen 5.3% vs. that of Tenable Holdings, Inc.’s ( TENB ) rise of 5.56%, as the chart indicates below:
52-Week Stock Price Comparison (TradingView)
For the balance sheet , the firm ended the quarter with $349.3 million in cash, equivalents and short-term investments and no debt.
Over the trailing twelve months, free cash flow was $50.1 million, during which capital expenditures were only $1.4 million. The company paid $16.0 million in stock-based compensation in the last four quarters.
Valuation And Other Metrics For Qualys
Below is a table of relevant capitalization and valuation figures for the company:
Measure [TTM] | Amount |
Enterprise Value / Sales | 9.8 |
Enterprise Value / EBITDA | 29.6 |
Price / Sales | 10.7 |
Revenue Growth Rate | 17.0% |
Net Income Margin | 23.0% |
EBITDA % | 33.1% |
Market Capitalization | $5,490,000,000 |
Enterprise Value | $5,130,000,000 |
Operating Cash Flow | $204,330,000 |
Earnings Per Share (Fully Diluted) | $3.16 |
(Source - Seeking Alpha.)
Below is an estimated DCF (Discounted Cash Flow) analysis of the firm’s projected growth and earnings:
Discounted Cash Flow Calculation - QLYS (GuruFocus)
Assuming generous DCF parameters, the firm’s shares would be valued at approximately $117.28 versus the current price of $146.49, indicating they are potentially currently overvalued, with the given earnings, growth, and discount rate assumptions of the DCF.
As a reference, a relevant partial public comparable would be Tenable; shown below is a comparison of their primary valuation metrics:
Metric [TTM] | Tenable | Qualys | Variance |
Enterprise Value / Sales | 6.8 | 9.8 | 44.0% |
Enterprise Value / EBITDA | NM | 29.6 | --% |
Revenue Growth Rate | 21.6% | 17.0% | -21.1% |
Net Income Margin | -10.9% | 23.0% | --% |
Operating Cash Flow | $136,710,000 | $204,330,000 | 49.5% |
(Source - Seeking Alpha.)
The Rule of 40 is a software industry rule of thumb that says that as long as the combined revenue growth rate and EBITDA percentage rate equal or exceed 40%, the firm is on an acceptable growth/EBITDA trajectory.
QLYS’s most recent unadjusted Rule of 40 calculation was 50.1% as of Q2 2023’s results, so the firm has performed quite well in this regard, per the table below:
Rule of 40 Performance (Unadjusted) | Q2 2023 |
Revenue Growth % | 17.0% |
EBITDA % | 33.1% |
Total | 50.1% |
(Source - Seeking Alpha.)
Sentiment Analysis
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:
Earnings Transcript Key Terms Frequency (Seeking Alpha)
I’m most interested in the frequency of potentially negative terms, so management or analyst questions cited "Challeng[es][ing]" three times, "Macro" six times and "Drop" once.
Analysts questioned company leadership about forward guidance assumptions.
Management is seeing some customers delay decision-making on deals, producing lower win rates during the quarter.
This is also impacting billings growth, even though management doesn’t provide forward guidance in that regard.
Gross margin has also stepped up, and analysts focused on whether that would be a future trend; leadership appeared reluctant to go that far, saying that it was due to disciplined investing and that future gross margin should be about the same.
Buyer sentiment for Qualys is positive. The company has a 4.5 out of 5 star rating on G2 Crowd, based on over 400 reviews. Buyers have complimented the company for its comprehensive vulnerability scanning capabilities, ease of use, and affordable pricing.
Commentary On Qualys
In its last earnings call ( Source - Seeking Alpha ), covering Q2 2023’s results, management highlighted its "industry-leading profitability" from "healthy growth."
Leadership is seeing continued vendor consolidation trends as customers seek to reduce "vendor sprawl" and complexity.
To this end, the company has continued to expand its offerings, making the firm more attractive to prospects wanting to simplify their vulnerability management.
The company’s dollar-based net retention rate fell to 109% from 110% YoY, indicating a more difficult operating environment as clients delay decision-making.
Total revenue for Q2 2023 increased by 14.4% YoY, and gross profit margin grew by 1.5%.
Selling and G&A expenses as a percentage of revenue fell by 1.6% year over year and operating income increased by 29.7%.
The company's financial position is excellent, with strong liquidity, no debt and plenty of free cash flow.
QLYS’s Rule of 40 performance has been excellent in the most recent quarter.
Looking ahead, consensus revenue for full year 2023 is expected to grow at a rate of 13.2% over 2022.
If achieved, this would represent a decline in revenue growth rate versus 2022’s growth rate of 19.1% over 2021.
Regarding valuation, in the past twelve months, the firm's EV/EBITDA valuation multiple has dropped 16%, as the chart from Seeking Alpha shows below:
EV/EBITDA Multiple History (Seeking Alpha)
A potential upside catalyst to the stock could include speedier decision-making by clients on non-discretionary purchases and continued profitability growth due to higher gross margins.
However, annual revenue growth is expected to slow, and management appears to be conservative in its comments about future conditions.
Given this tepid outlook and an apparently high-priced stock valuation, I’m Neutral [Hold] on Qualys, Inc. for the near term.
For further details see:
Qualys Sees Slowing Sales Cycles Amid Platform Expansion