This isn't an argument about whether PTC (PTC 0.62%) or Trimble (TRMB 1.59%) is the better company; both are great and have excellent long-term prospects. Instead, I think one stock has a notably better risk/reward profile and is worth buying now, while the other is fully valued and has some near-term risk around its full-year guidance.
PTC has an exciting future
Industrial software companies' solutions are the future of manufacturing. The digital revolution sweeping the manufacturing and industrial sectors is still in its early stages, which means that PTC will have many years of growth ahead.
Image source: Getty Images.
If there are two phrases every manufacturer will look at in the coming years, they are "digital thread" and "closed-loop cycle."
The former refers to the integration of digital data through the entire lifecycle of a physical product. Whether it's in the design phase with computer-aided design (CAD) software, the gathering of data about the product throughout the manufacturing process using product lifecycle management (PLM), or even the enhancement of operations through connecting the product to the digital world with the internet of things (IoT) or augmented reality (AR), PTC has a solution.
Meanwhile, the "closed-loop cycle" refers to continuous digital iteration and improvement throughout a product's lifecycle. So, for example, if data analytics suggest that a product can be manufactured better with a redesign during the manufacturing process, a design engineer can do that and even digitally test out the changes to the manufacturing process made by the redesign.
PTC's risk/reward calculation
The company has an exciting future, and its solutions continue to gain traction. PTC has grown its annual run rate (ARR), defined as the "annualized value of our portfolio of active subscription software, cloud, SaaS, and support contracts" by a double-digit annual rate since 2017, and management is aiming for a yearly mid-teens growth rate over the medium term.
So why on earth shouldn't you favor buying the stock?
My concern is that the company has much to do to meet its full-year ARR guidance. Management's guidance calls for ARR to grow from $1.98 billion at the end of 2023 to $2.22 billion at the end of 2024, an increase of $241 million.
ARR grew by $38 million in the first quarter, and management is guiding toward $41 million in the second quarter, making $79 million for the first half. Since the full-year guidance is for an increase of $241 million, it implies an increase of $162 million in the second half.
Here's how that looks graphically.
Chart by author. Data source: PTC presentations.
Given that first-half growth is estimated to be less than that achieved in 2023 and the industrial economy is slowing in 2024, the second-half growth estimate looks like an ask.
PTC may well hit this target, but I think there's reason for caution. Investors should look closely at what ARR PTC reports in its upcoming second quarter.
Trimble's underlying growth is impressive
A quick look at the two companies' price charts shows that Trimble has had a much more volatile time of it over the last year. That's understandable, given that Trimble's full-year earnings came in at the light end of its original guidance. For example, the initial guidance for 2023 called for organic annualized recurring revenue growth in the "mid-teens," when it came in at 13%. Organic revenue growth guidance was 2% to 5% when it came in at 1%, and diluted earnings per share was $2.66, at the bottom of the guidance of $2.66 to $2.86.
The positioning and workflow technology company is growing its software and recurring revenue as it's becoming an increasing part of its customers' daily workflow, and it continues to grow its annualized recurring revenue at a mid-teens rate. However, two of its end markets, agriculture (its agriculture business is now part of a joint venture with AGCO) and transportation, slowed markedly in 2023 due to lower crop prices and a cyclical economic slowdown.
That said, the guidance for organic annualized recurring revenue growth in 2024 is 11% to 13%. Trimble is set to significantly improve cash-flow generation in the coming years as its recurring revenue drops into cash flow. In addition, the guidance looks reasonable considering the 13% organic growth in annualized recurring revenue in the fourth quarter.
Stocks to buy?
PTC and Trimble are set to grow earnings and cash flow significantly in 2024, but I think there's more risk around PTC's guidance than now. Cautious investors will want to wait and see what management is guiding them to after the next set of earnings. Meanwhile, Trimble's earnings could surprise on the upside in 2024 if it has excellent traction in building and construction, and its transportation end market might bottom out.
