Are Workday Shares a Good Investment for the Long Haul?

Workdays shares look expensive, even after their huge sell-of this year. The company's latest quarterly report also shows that it failed to turn a profit, again. Considering this, is the company a good long-term investment?

May 31, 2014 at 9:00AM

Workday (NYSE:WDAY) recently announced first-quarter fiscal 2015 results that showed its revenue grew 74% during the quarter to $159.7 million, but the company also reported an operating loss of $32.6 million. Meanwhile, shares have lost nearly 32% of their value this year. So, are the shares good long-term investments?

Stocks of young SaaS, or Software-as-a-Service, companies such as Workday, Splunk (NASDAQ:SPLK), ServiceNow, NetSuite, and Concur Technologies, among others, are notorious for their stomach-churning volatility. However, even stocks of more mature SaaS companies such as salesforce.com (NYSE:CRM) tend to be more volatile than the average stock in the S&P 500.

Workday

These stocks also typically trade at stratospheric valuations.

Workday

Another major characteristic of many young SaaS companies is that most sport unusually high sales and marketing expenses as a percentage of revenue. Workday spends 42% of its revenue on sales and marketing, while Splunk spends 70% of its revenue on marketing expenses. Salesforce, a more mature company, spends more than half of its revenue on sales and marketing expenses.

Workday

Workday's sales and marketing expenses compare quite well to those of other leading SaaS companies.

The big difference between SaaS and other software companies
The core business models of traditional software companies such as Oracle and SAP revolve around selling ''perpetual licenses,'' then selling upgrades later. Customers typically pay for the software licenses up front, in addition to recurring annual maintenance fees (usually 15%-20% of the license fee). For these companies, the timing of their revenue and expenses tends to be perfectly aligned.

SaaS companies like Workday, however, face a problem here. These companies do not sell perpetual licenses, but instead sign up customers to use their software, which is hosted by the SaaS companies, on an ongoing basis. Revenue comes in gradually as the months roll on, yet the companies incur most costs, especially customer acquisition costs, up front. Thus, the timing of income and expenses for these companies tends to be misaligned.

Bearing this in mind, to get a more accurate idea of Workday's true state of affairs, consider its deferred income. A good proxy is the company's billings, which are usually calculated by taking the revenue of one quarter and adding the change in deferred revenue between the current quarter and the previous quarter.

Workday invoices customers for cloud applications contracts using annual and multi-annual instalments.

Workday

Source: Workday 10-Ks

Thus, Workday's unearned revenue balances for fiscal years 2012, 2013, and 2014 were $188 million, $285 million, and $414 million, respectively.

Workday's revenue, as reported in its 10-Ks, therefore, significantly understates its true financial performance. For instance, in fiscal year 2014, which ended in December 2013, the company's billings exceeded the reported revenue by $128 million.

The company's billings have been growing at a robust pace of approximately 60% every year. This suggests that the company has great growth runways ahead, as it continues to win more market share. That is, perhaps, why investors are willing to pay a big premium for its shares.

Why does Workday spend so much on sales and marketing?
Rapidly growing SaaS companies such as Workday, Splunk, and Salesforce spend heavily on marketing, sales, and customer management functions to acquire as many customers as possible. This is because once their installed customer bases get big enough, cash generated from ongoing operations will be more than enough to cover the additional cost of acquiring more customers.

Once an SaaS business matures, and most customer acquisition costs are charged on its balance sheet, the company can then harvest incoming cash flow as profit. To see how much Workday spends on customer acquisition costs, take its sales and marketing expenses and divide by the by the number of customers acquired over the period in which the expenses were incurred.

It's also important to check whether the company is getting high-quality customers who will generate profit. This is referred to as the customer lifetime value. In a good SaaS business, the customer lifetime value should be at least three times the cost of acquiring customers.

Workday does not typically disclose its customer acquisition costs, but we can assume that the company spends 70% of its sales and marketing expenses on customer acquisitions. Also, the company does not disclose customer lifetime value in its 10-Ks, nor does it disclose its annual recurring revenue or contract value, so we can use the average subscription revenue per customer as a proxy here.

Workday

Note: CAC--customer acqusition costs, LTV--customer lifetime value
Source: Workday 10-Ks

At the current rate, Workday will eventually earn $6.30 for every $1 it spends to acquire new customers. The good part is that this figure is growing rapidly, which is great. The absolute amount of money that Workday spends on sales and marketing costs might look quite large, but it's money well spent. These costs are responsible for the company's losses, but they should eventually start paying off before long.

Foolish bottom line
Workday's losses can be attributed to the company's high sales and marketing expenses. But, a deeper look into the problem reveals that the company is spending this money on high-quality customers that are more likely to generate additional revenue in the future. The shares are, therefore, good investments.

Your credit card may soon be completely worthless
The plastic in your wallet is about to go the way of the typewriter, the VCR, and the 8-track tape player. When it does, a handful of investors could stand to get very rich. You can join them -- but you must act now. An eye-opening new presentation reveals the full story on why your credit card is about to be worthless -- and highlights one little-known company sitting at the epicenter of an earth-shaking movement that could hand early investors the kind of profits we haven't seen since the dot-com days. Click here to watch this stunning video.

Joseph Gacinga has no position in any stocks mentioned. The Motley Fool recommends Salesforce.com. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.


Compare Brokers