Investment Thesis
Atlassian (NASDAQ:TEAM) is richly valued for what it offers investors. This business was once flying high and could be counted on for hyper-growth rates. Today, as its share price has come down, Atlassian is more sensibly priced at approximately 29x next year’s non-GAAP operating profits.
In a short sentence, I make the case that this stock is already fairly valued and requires an unrealistically rosy outcome to make this stock worth chasing.
Given that there are now really great bargains in the market, I’m giving this stock a pass.
Rapid Recap
In my previous analysis, in April, as we headed into Atlassian’s fiscal Q3 2024 results, I said,
I estimate that Atlassian Corporation stock is priced at 36x forward free cash flow, with an inflexible balance sheet, and decelerating growth rates.
Therefore, I’m giving this stock a wide pass, as I’m finding much better opportunities elsewhere, particularly given the breather stocks have had of late.
Since I made those comments, the stock has come down and underperformed the S&P500 by 30%.
Today, while TEAM valuation is more palatable, as you’ll soon see, I’m having to paint a very rosy outlook to make this stock look enticing. In other words, it requires the best case to play out to make the stock fairly valued. Therefore, I’m staying away from TEAM.
Atlassian’s Near-Term Prospects
Atlassian enhances team collaboration with its software products, such as Jira and Confluence, designed for project management and teamwork. Their platform streamlines business workflows, boosts productivity, and offers solutions for task organization, information sharing, and project progress tracking.
Atlassian’s challenge lies in its ongoing migration of customers from server to cloud. While the company has surpassed initial projections for cloud migration and maintained lower-than-expected churn rates, it must continue to facilitate the transition for its data center customers.
These migrations are akin to removing money from one pocket to put in another pocket, but leaving the person with the same amount of money or revenue, in this case.
Consequently, as the perceived benefit of its customer server migrations dissipates, Atlassian will have to focus on other revenue growth drivers, meaning new customer acquisition and enhanced cross-selling to reignite its revenue growth rates.
Given this background, let’s now discuss its fundamentals.
Revenue Growth Rates Point to Low 20s% CAGR
Atlassian is now delivering nearly $5 billion of annualized revenues. Growing at scale is a challenge. Accordingly, it’s worth keeping in mind that very few companies are able to grow at close to $5 billion in revenues while delivering mid-20s% CAGR, let alone 30% CAGR.
Indeed, the issue here is that fiscal Q4 2024 was supposed to be up against a rather easy comparable quarter with the prior year. Investors were expecting to see management reaffirm that its very strong performance in fiscal Q3 2024 could be repeated next quarter.
Whereas, management guided for approximately 21% y/y revenue increase for fiscal Q4, 2024. For my part, I’ve assumed that management is being conservative with its guidance, and I’ve added 200 basis points to the high end of Atlassian’s guidance.
One way or another, it appears that this year, Atlassian’s revenue growth rates are hovering around the low 20s%.
Thus, this forces the uncomfortable question, can Atlassian reaccelerate its growth rates back to mid-20s% and higher? Or is this now probably as good as it’s going to get?
Naturally, getting a strong view of Atlassian’s future growth rates will impact the valuation investors will be willing to pay for its stock, a discussion we turn to next.
TEAM Stock Valuation — 29x Forward Non-GAAP Operating Profits
Here’s where matters become further complicated. In last year’s fiscal Q4, 2023, Atlassian’s non-GAAP operating margins stood at 22%. While for this year, its guidance points to about 18.5%.
Even if we assume some level of conservatism, and Atlassian’s non-GAAP operating margins reach 19.5% in fiscal Q4 2024, that would still be a 250 basis points compression in its underlying profitability. Think about this.
As the business is becoming larger, we’d expect to see the benefits of scale driving an increase in profitability. Instead, we are seeing the opposite taking place.
Nonetheless, let’s assume that this is a one-off quarter and that for the following fiscal year, Atlassian’s underlying profitability returns to increasing. Let’s make the case that next year its non-GAAP operating margins reach around 25%, up from where I believe this year will finish, at around 23%.
This would mean that in fiscal 2025, Atlassian’s non-GAAP operating margins would probably end up around $1.4 billion, but unlikely to be higher than this figure. This would be approximately 25% y/y higher than this year’s non-GAAP operating profits.
Now, does it make sense to pay 29x non-GAAP operating profits for a business, where one must “assume” a rosy scenario?
On the other hand, Atlassian’s balance sheet carries close to $1 billion of net cash and marketable securities, which provides it with a solid cushion, and flexibility.
All in all, I believe that this stock is already fairly valued and that there are more compelling underlying opportunities elsewhere.
The Bottom Line
In conclusion, I am not pursuing Atlassian’s stock as I believe there are better opportunities elsewhere.
Despite its recent price correction and more reasonable valuation at approximately 29x next year’s non-GAAP operating profits, Atlassian’s prospects still demand an overly optimistic outlook to justify investment.
The company’s slowing growth rates, possible challenges with profitability, and ongoing customer migrations further diminish its appeal for me.
In conclusion, I am passing on Atlassian and focusing on other more promising investment opportunities.
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