It's the tail end of fourth-quarter earnings season, with many software companies set to report their financial results over the next few weeks. Last week, it was Autodesk's (ADSK -0.90%) turn to share the spotlight. Investors apparently didn't like what they saw, sending shares down over 10% the day following the report, likely due to surprisingly weak free-cash-flow guidance for the upcoming fiscal year.
But I think these sellers are missing the forest for the trees when analyzing Autodesk, making now the perfect time to buy the dip on this software leader.
Q4 earnings were strong, but guidance was weak
Autodesk is a leader in providing design and workflow tools for the architecture, engineering, construction, and media industries. It has dozens of software products, almost all of which it has switched to a recurring subscription model over the last 10 years. This has made its business model much more predictable, driving durable and steady revenue growth year after year.
Last fiscal year -- which ended in January -- saw no change to this trend. Revenue grew 15% year over year in constant currency to $5.01 billion, with 98% of Autodesk's business now coming from recurring subscriptions. This year, in fiscal year 2024, management is expecting the company to grow its sales by 11% to 13% in constant currency.
Free cash flow is a different story. Autodesk beat its own guidance for free cash flow last year, generating $2 billion for shareholders. However, this fiscal year it is expecting free cash flow to dip significantly to $1.2 billion, which has some investors spooked. This is easily explainable though and should not concern anyone. Recently, Autodesk decided to change from collecting cash on multiyear contracts upfront to an annual billing cycle, which will help its customers more easily manage payments. In return, Autodesk is offering them a smaller discount on their software subscriptions. While this will actually increase the total cash it collects from customers over time, it will cause a one-time trough in free cash flow next year as it makes the transition.
After fiscal year 2024, Autodesk is expecting to get back to a free-cash-flow margin of 30% to 35% as its annual billing transition comes into full effect. This should lead to free cash flow getting higher than last year's $2 billion market and back to growing alongside revenue.
Growth drivers remain intact
Looking beyond next year's guidance, Autodesk has multiple growth opportunities that should lead to 10% to 15% revenue growth for the next five years, if not longer. First, it is benefiting from secular tailwinds driving architects and engineers to its 3D design software products like Revit, which are getting mandated by governments around the world but are still in the early innings of adoption.
Second, Autodesk has a burgeoning set of software tools for the construction market called the Autodesk Construction Cloud. These are workplace productivity and communication tools for contractors, owners, and other people working on construction sites to have a single set of truths when building complex projects. While it's still early days, these cloud-based tools are growing rapidly, with the segment adding over 1,000 new companies just this quarter.
Third, Autodesk has a fast-growing software platform for the mechanical, electrical, and manufacturing engineering industries called Fusion 360. The segment hit 223,000 paying subscribers last quarter, up from 211,000 in the third quarter, with its add-on extension products growing 100% year over year in the period. Like its construction cloud tools, Fusion 360 is still in its early days but has a long runway to grow.
You can see the proof of these growth drivers in Autodesk's remaining performance obligations, which measures the total dollar amount it has under the contract that it has not yet billed customers for. Last quarter, remaining performance obligations grew 19% year over year to $5.6 billion. This is a key performance indicator for investors to track for Autodesk.
Look a few years out and Autodesk stock is cheap
At a market cap of $41.5 billion, Autodesk is not cheap if you try to value it on its fiscal year 2024 free-cash-flow guidance. Savvy investors know that it isn't just one year of earnings that defines a stock, though. Over the next few years, Autodesk should start closing in on $3 billion in annual free cash flow as it continues to gain more customers at Revit, builds out Fusion 360 and the Autodesk Construction Cloud, and consistently raises prices.
Investors can't know exactly when this will happen, but if free cash flow grows at a 10% rate from its fiscal year 2023 level of $2 billion, it will be doing $3 billion in free cash flow in four years. This would put its price-to-free-cash-flow ratio at 13.8, which is way below the market average. For a business with 98% recurring revenue, a dominant market position, and multiple long-term growth drivers, I think that makes the stock cheap after its Q4 earnings drop.
