This Under-the-Radar SaaS Company Just Had Another Great Quarter

As companies report second-quarter earnings, investors have been gaining valuable insights into how companies are dealing with coronavirus challenges, widespread unemployment, and the recession. It may not be a household name, but AppFolio (APPF 12.05%), a software-as-a-service company that helps U.S. property managers and legal firms to run their businesses, released an upbeat report earlier this month for the period from April to June. The positive result surprised some investors and has helped fuel its 50%-plus year-to-date stock gains.

Investors may be asking why this software platform has been so resilient and if it will be able to continue its solid growth. Let's find out by taking a look at the state of the rental market, the Q2 results, and the factors that will determine how coronavirus-resistant this stock is.

The rental market today

Around 90% of AppFolio's revenue comes from its software that enables property managers to run their businesses, so understanding the state of the rental market is important for shareholders. Given everything that's going on, you might be surprised that the rental market is actually quite vibrant. Vacancy rates have dropped to a 35-year low of 5.7% in Q2, down from a peak in 2009 of 11.1%. 

US Rental Vacancy Rate data by YCharts

The tightening of the supply of rental units and inflation have driven median rents up from below $700 in 2009 to $1,033 last quarter, which was a slight dip from the peak in the first quarter of 2020. But there are storms on the horizon. 

A survey by the census bureau reported that in July that more than 50% of U.S. households experienced reduced income due to the coronavirus. But even with many under financial stress, as of the end of July, 95.7% of renters were current on July rent, which isn't far off from July 2019's 96.6% number. But there are signs this might not continue going forward. The same survey found that over a third of renters had little to no confidence they could make their August rent.

Delayed or missing rent payments add to the challenges landlords face with running a property management business during a global pandemic, but so far it hasn't significantly impacted AppFolio's results. 

This quarter's results were impressive

Year-over-year revenue growth for Q2 hit a solid 27%, which was equivalent to the Q1 mark, and down slightly from 2019's 35% gain. This result is especially impressive given the pandemic's disruptive impact on our economy so far. Its top-line increases were powered by a 32% year-over-year gain in its "value+" segment, which is made up of transactional fees for services such as payments, tenant screening, marketing, insurance, and debt collection.

The coronavirus may impact AppFolio's short term results. Image source: Getty Images.

The good results didn't stop there. Income from operations increased to 7.8% of revenue, up from 3.6% in the second quarter of 2019. Cash flows from operations grew to $27.4 million, up from $11.8 million the previous year helping add to its strong position of $80 million in cash and marketable securities.

In the earnings call, Chief Financial Officer Ida Kane didn't provide an outlook for the any future results stating, "We are still unable to predict with any reasonable degree of certainty the full extent of the potential impact of the pandemic on our business and financial results."

Given how the business has performed so far in 2020, it stands to reason the company is somewhat coronavirus-resistant. Let's look at why.

It's coronavirus-resistant, but probably not immune

AppFolio's growth comes from a combination of new customers, existing customers spending more, and additional units under management. From 2017 to today the number of units per property management customer has grown 18% to an average of 329 units per customer. This shows that its property manager customers are larger and well established, which should provide a stable base of paying customers.

Data source: AppFolio SEC filings. Data as of the end of period. 

This software has become an essential service during the pandemic, enabling staff to handle renewals and showings and perform other business-critical functions remotely. The fact property managers depend on its software to run core business functions should keep its customers paying subscription fees even if they face financial hardships.

However, a trend that has been powering AppFolio's growth could become a source of weakness. Its value+ services have grown to 64% of the top line, up from 56% from 2017. Increases in units under management have fueled this trend with its 50%-plus gain over the same period. More units have helped drive more revenue-generating transactions, but these value+ services are probably the most at risk going forward. Decreases in rental unit occupancy rates, a reduction in units under management, or even budgetary pullbacks from property managers could negatively impact this revenue.

The takeaway for investors

AppFolio has become a business-critical software service for over 15,000 property managers and 11,000 law firms. It's proven to be coronavirus-resistant, but its stock may drop if growth slows as a result of economic hardships for renters or property managers. Long-term focused investors understand that these challenges are short-term. As the pandemic passes, this quality operator will continue to grow into its huge market opportunity and be a solid investment for those who are patient.