We all know the old saying, "Nothing's certain but death and taxes." And if you somehow managed to forget, the recent April 15 tax deadline was there to remind you. Like it or not, we've all got to file every year -- and what's not so fun for us is great for tech company Intuit (INTU 3.72%), creator of the wildly popular DIY tax preparation software TurboTax.
Intuit's recurring revenue is a competitive advantage. Image source: Getty Images.
TurboTax enables users to easily navigate the sometimes complex and intimidating world of tax law and preparation, and it boasts enviable prowess and large market share. If that's not enough, Intuit is also the leading provider of small business accounting software in the form of QuickBooks, which enables small business owners and accountants alike to manage those debits and credits. QuickBooks is estimated to have an 80% share of its market.
New offerings, easier tools
The management team at Intuit is obsessed with two things we as Fools love to see: innovation and customer service.
Innovation-wise, Intuit spends nearly 20% of revenue on research and development, meaning there's a steady stream of new products and services to keep customers coming back. For example, the addition of the ability within QuickBooks to send and track invoices to customers brought valuable business functionality into an already critical product for small-business owners. And after discovering that many do-it-yourselfers still had important questions while preparing their taxes, Intuit blended traditional assisted tax preparation into its DIY platform by introducing TurboTax Live, which enables the filer to talk with a CPA or tax advisor on demand to answer any questions or review their DIY filing. Filers can even use their phone to snap a picture of their W-2 and start to prepopulate tax forms.
And the company's products are designed for ease of use. TurboTax walks customers through filing a return by asking simple, step-by-step questions. The filer uses their personal information and the necessary tax documents to progress through the steps. Much of the appeal of the TurboTax product is its simplicity, which is a major value-add, especially considering recent (and any future) tax reform.
This focus on innovation and customer service is steps ahead of competitors', and it should serve as a major competitive advantage.
Handing money back to shareholders
Intuit's balance sheet is clean, boasting cash and short-term investments of $1.3 billion against debt of $413 million, meaning the company can easily pay off its debt if desired. Management has been able to continuously expand revenue over the long term; measuring through the end of its 2018 fiscal year on July 18, Intuit has posted a three- and five-year revenue compound annual growth rate (CAGR) of 12.5% and 8.6%, respectively. For comparison, competitor H&R Block has expanded its three- and five-year revenue CAGR at 0.9% and 1.7% respectively.
The company has also been able to pass this cash along to investors. Unlevered free cash flow (a metric Fools tend to like better than net income, because it represents the money ultimately returned to shareholders) has boasted a CAGR of 18.9% and 9.1% over the same three- and five-year period. And Intuit has remained very profitable throughout, with operating income margins higher than 25% over the past couple of years. This is a company with very strong financials.
The nature of Intuit's business makes for a lot of recurring revenue (taxes are due every year), creating some very predictable cash flow that is extremely attractive to investors. As long as the company can maintain market share, it can keep its current level of earnings going into the future. And it's not just tax law driving predictable sales; also helping the cause is QuickBooks, which is transitioning away from desktop sales to an online software-as-a-service (SaaS) model. The former only requires a one-time purchase, after which a user may then wait years to upgrade -- if ever. But with SaaS, Intuit receives a monthly revenue stream for as long as the user has the QuickBooks online service.
It's a great business, but ...
All that said, not everything about Intuit is enticing right now. Prospective buyers should wait for a market dip or decline in the stock price before making their purchase. This is a superior business, but it trades at a price-to-earnings (P/E) ratio of 54, compared with 21 for the stock market as a whole. That makes Intuit about two-and-half times more expensive than the market. For a company that posted modest earnings growth, is the premium worth it? A great business can turn out to be a bad investment if you pay too much. I think Fools should wait at these levels.
What to watch for
Intuit would make a great addition to the portfolio of any Foolish investor looking for the somewhat unusual combination of innovative products and recurring revenue, but at its current valuation, it's a little too expensive for my taste. The company's next earnings report is projected for the end of May; if there is temporary bad news that does not effect the long-term outlook of the company, a dip in price might present a great opportunity to buy on sale.
