A growth story
Altium Limited (ASX: ALU) is a business we own in our domestic portfolios at Montgomery. It’s highly likely that the business is unfamiliar to most investors given it’s by no means a big business and nor would it be considered by many to be a ‘blue-chip’, but that’s probably why we like it.
In our opinion, Altium is a business that has excellent prospects. The reason for this is that it has exposure to a high growth market that will last decades, the machine-to-machine revolution. Also widely known as the internet of things (IOT), it’s a multi-year structural growth story which appears to be gathering pace.
Everything from elevator lifts, to your smart phone and even the family car is now filled with electronic processing power. You’d have to be living under a rock to have not seen the almost daily improvements in driverless or electric cars. It’s growth markets, such as these technology advancements, that sees Altium well-placed.
And ‘why’ do you ask, because Altium owns and builds the software that is used by some of the largest businesses in the world to design circuit boards in a virtual environment. Think BMW, Audi, BAE Systems and Bang & Olfusen to name just a few.
Importantly, in the current economic environment where organic growth is scarce, this is not a headwind for the business. Altium is an impressive growth story and we think it could continue for some time yet. This growth is coming from being exposed to a fast growing market, but also because they have been reinvesting and improving their software capabilities to further meet their customer’s needs.
According to our research, these upgrades have been well received and have resulted in Altium Designer being successful in taking market share from the dominant players in the space. Another contributing factor is that their software is at a significantly lower price point for the product features than their competitors.
Importantly, once a customer has made the decision to integrate Altium’s software into their design process, it’s tough for them to just up and leave. Think about the logistics required if they did – staff would need to be retrained on new software, processes would need to be redesigned and the library of existing product designs and components would need to be transferred and changed.
As you can start to understand, it’s not a simple task, and it’s this point which appears to provide them with some pricing power. Also known in the industry as ‘switching costs’, the barriers make portability a complicated task and result in a customer base with very high attachment rates and sticky revenues. This is a powerful combination.
In terms of an upcoming catalyst, we noted that Altium had a balance sheet flush with $62 million cash in US dollars at their full year result – a combination of a $45 million capital raised last year and internally generated cash flows. And it’s with these funds that we expect to see a material acquisition made in the near future.
The benefit of such a move would be threefold. First, cash on the balance sheet is earning nothing so an acquisition of circa $100 million USD would see another profitable business being brought into the fold, lifting the business’ earnings with no further dilution. Second, we know that management are only interested in acquiring a software business that further lifts their existing product capabilities. And third, a product with more features will potentially attract a newer audience, extending their growth outlook for longer.
All of the above observations lead to one simple conclusion for us and that is that the business is in a strong position with a long runway ahead of them. And if you needed one more positive, the business reports in US dollars and a lower Aussie dollar sees these cash flows worth more once converted.
Altium is held in The Montgomery Fund and the Montgomery [Private] Fund.
Russell Muldoon is the Portfolio Manager of The Montgomery [Private] Fund. To invest with Montgomery domestically and globally, find out more.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
INVEST WITH MONTGOMERY
david klumpp
:
Hello Russell. I would like to add to Ian’s request for some insight on the small medical device company CMP. From my research it seems a quality company with good products in a growth area. Appreciate your comments on that business and another I think interesting Citadel CGL.
Regards David.
Roger Montgomery
:
Hi David,
I believe one of the team is looking at it.
david klumpp
:
Hello Russell. I would like to add to the request to Ian’s for some insight on the small medical device company CMP. From my research it seems a quality company with good products in a growth area. I was poised to buy it last week around 28c but was too cautious and now it’s price is rising outside my judged value limits. Appreciate your comments on that business and another I think interesting Citadel CGL.
Regards David.
Grant
:
Thanks for a well written article.
One comment: The high switching costs are correctly noted as a factor in favour of retaining contracts. However, it is also true that this makes gaining share equally difficult.
Is it your understanding that pricing is the weapon of choice in this war for ALU?
Regards,
Grant.
Russell Muldoon
:
Hi Grant, thats one angle. The other is that ALU are perfectly positioned to capture the sheer number of businesses that are starting up, creating all the disruption (from a technology perspective). Mentor and Cadence business models are setup to cater for the big end of town and thats apparent with their client numbers. ALU on the other hand have thousands and should the IOT (internet of things) continue to gather pace, which we expect it will, think of how many more individual electronic engineers are going to enter the market. Bright prospects indeed.
John Prouzos
:
It really irks me when a stock like ALU which I bought for $5.15 a year ago is floundering at sub $5.00!!
Russell Muldoon
:
Good things come to those who wait John.
thomas michael
:
Interesting article though a bit short on fundamentals/specifics. Can you please provide some key data re sales, earnings etc?
Also, I am a bit confused re your comments that it’s difficult to dislodge customers in this area once they are committed when at the same time that’s exactly what Altius has been doing (gaining market share).
Cheers
Russell Muldoon
:
Hi Thomas, this blog is not intended to be a full research report. More a summary of the business and its prospects. Im sure you will find it more a rewarding experience to dig deeper into the business. We believe it is worth the effort.
david klumpp
:
Hello Russell. I did think one point made by Thomas was pertinent: being that of the advantage that Altium has of customers being difficult to dislodge. Surely the competitors have the same advantage in this industry? Hence I wonder how does altium easily win market share if it is so hard to dislodge a customer?
Russell Muldoon
:
Same reply as to Rob David.There are lots of industries undergoing disruption right now where the incumbents are having their business models challenged by more nimble and more dynamic management teams.
ian
:
Thanks for your positive update.
AND thanks to SKAFFOLD that I first discovered this company when it was 80c. I bought some but sold when the CEO stepped down and they moved to China but felt comfortable enough to buy back in when the price was $2.00 and continue to like the company and hold it.
I do hope that Altium has quite of few years of still has a long run of growth ahead.
If you are still doing your small cap series could please you have a look at Compumedics CMP? another interesting little company that I have found with SKAFFOLD.
Russell Muldoon
:
Thanks Ian. I dont know a great deal about CMP so I will be sure to have a look. Always something new to look at!
rob barnett
:
Russell / Roger,
In your opinion could you please describe the moat that Altium has & what is the moat’s strength. Many thanks.
rob barnett
:
Russell / Roger,
I apologise for asking such a difficult question. I just presumed if the stock was in your portfolio then it went without saying that it had a moat.
Best regards.
Russell Muldoon
:
Hi Rob, moats are only good if your in defence mode. ALU is not at that stage yet and more in the disruptive camp presently.
rob barnett
:
Russell,
Now you have opened up a whole other conversation about your investing style. Warren Buffett defines moats as the company’s sustainable competitive advantage. So this company doesn’t have any sustainable competitive advantage?
Russell Muldoon
:
Hi Rob, wasnt my intention. Its hard to convey a message in such a short response. Needless to say there are lots of industries undergoing disruption right now where the incumbents are having their business models challenged by more nimble and more dynamic management teams.
david klumpp
:
Thanks Russell for this update on ALU which i invested in last year and have been considering adding to. Clearly a high quality company with bright prospects; can you please comment on current price in relation to value?
Russell Muldoon
:
Hi David, we still own it and have not sold a share for some time.
Peter Chapple
:
Hi Russell,
Great article, compelling story. Do you see any value in Altium at the moment? Or does it fall into the category mentioned by Tim in this weeks video blog of a good business but fully valued?
Peter
Roger Montgomery
:
Hi peter,
I am sure Russell may add some comments here but in short, we still see a little value here.
Russell Muldoon
:
Hi Peter, same as with our reply to David, we still own it and have not sold a share for some time.
Richard Prince
:
How would you rate its value at the current moment. Its very expensive according to skaffold. Thanks Richard
Roger Montgomery
:
Hi Richard, Because we can meet with the company and have our own views about prospects and discount rates, our inputs will invariably be different and that is what produces the variation in valuation.