This is an excerpt from a research note published and send to clients on December 18th.
NetSuite is adding its name to the mix of public companies investors will have to choose from in the software as a service (SaaS) space.Â NetSuite is attempting to position itself as an integrated ERP solution for small to medium sized businesses (SMB) versus competition that aims more at a specific application area like accounting (Intuit), sales (salesforce.com), marketing (Vocus) or human resources (Workday).Â
As with any IPO marketing presentation there is a mix of fact and fiction to be sorted out in terms of what they company real has and can be expected to do.Â Â By nature the investment case is an exercise left to the viewer and we will fill in some of the gaps there.Â Specifically we would note the following reality checks with respect to NetSuite:
- Functionally speaking NetSuite comes from roots in accounting that they have expanded from to include additional areas like procurement and some others.Â Itâ€™s probably not at all fair to suggest they are a real ERP or integrated solution that can be applied to companies in general Â
- With annual revenue per client routinely upwards of $20,000 per year NetSuite is not for very small companies.Â This suggests that they will compete less with Intuit and more with Microsoft and SAP SaaS-based SMB offerings over time.Â This niche also translates into a smaller overall market opportunity for NetSuite.Â In fact NetSuite is focused on moving existing customers to higher value solutions that are closer to the $100,000 price point.
- The company has recently entered a period of accelerated growth and improved propects thanks to the strength of the SaaS pricing modelÂ today.Â However NetSuite is still early in its ramp to profitability.Â Their target model of 12-15% operating income is pretty aggressive and is more likely to be reached in 5 years versus its stated goal of 3 to 5 years.Â Cash flow shouldÂ be higher and a better metric over time.
The conclusion we arrive at via the more elaborate discussion below suggests that NetSuite represents a good short-term opportunity thanks to its SaaS roots and strong market demand entering 2008.Â However in the longer term NetSuite is not as well positioned as larger players and will be challenged to generate the type of growth in later years that will be needed to reach its profitability goals.Â Both our long-term valuation model and an analysis of comparable companies points to a $12/share fair valuation for the company.