Investors are fleeing expensive-looking software names this year. For some, the sell-off has been quite deserved, as many software names came into the past six months at nosebleed valuations.
But not all of them did, and with the entire sector being tossed out, savvy buyers appear to be swooping in. After all, private equity firm Thoma Bravo just agreed to purchase enterprise planning software firm Anaplan for $10.2 billion -- a show of confidence in a sector many investors are running from today.
While much will depend on interest rates and inflation, some high-quality software names are down significantly from their highs. Some that offer very in-demand tools for the new economy now trade at very reasonable valuations, making them solid pickups for savvy long-term investors unafraid to go against the grain.
Microsoft
Market stalwart Microsoft (MSFT 0.59%) is down nearly 20% from its highs, and that may be the best opportunity one might get in this top cloud conglomerate. Microsoft has several top software franchises, including the Office productivity suite and Dynamics enterprise resource planning. However, it's really powerful when these are tied to Microsoft's Azure cloud offerings, along with its Power business intelligence tools.
With several wide-moat franchises that generate very high margins, Microsoft is both defensive and offensive, since its cloud offerings are growing so fast. Azure grew 46% last quarter, and while some deceleration is to be expected, many believe we are still in the early innings of the cloud transition. Only between 5% and 20% of IT spend is on cloud workloads. Therefore, Microsoft Azure, as well as its ancillary productivity services, appear to still have a long runway to grow.
Microsoft also sports other businesses, including LinkedIn, the premier business social network, along with the Xbox video game platform and several gaming studios. Currently, Microsoft is attempting to land its biggest acquisition ever in its $69 billion bid for Activision-Blizzard. While it may or may not happen, the bid shows Microsoft is serious about continuing its growth, despite its massive size.
With a rock-solid balance sheet, share repurchases, and a rising 0.9% dividend, Microsoft offers a little bit of everything for investors: a wide moat, cloud growth, acquisitions, and capital returns. It's a great software stock to anchor a portfolio.
Image source: Getty Images.
Splunk
IT management, cybersecurity, and observability company Splunk (SPLK) is looking like a great turnaround candidate these days. Last year, Splunk's stock was decimated as it labored through a business transition from on-premise to cloud, and then took another leg down in November when its CEO Doug Merritt resigned.
Fast forward to today, and Splunk looks to be in the later stages of its transition. Revenue growth is strengthening and the company has hired a new CEO. With the storm clouds now passing, the stock has been a strong performer this year. In fact, Splunk is positive for 2022, which not many software companies can say.
That's partially because shares had fallen so far last year, and they still trade at a quite reasonable 7.5 times sales and 5.2 times 2022 sales estimates. Not bad for a company growing its annualized recurring revenue (ARR) 32% last quarter, with its cloud-based ARR at an even higher 65%. With cloud becoming a bigger part of the pie -- cloud made up 43% of Splunk's ARR last quarter -- and with its cloud net retention rate at a very strong 132%, I'd look for Splunk to maintain high growth rates in 2022. Meanwhile, new CEO Gary Steele was a highly respected founder/CEO of Proofpoint, a cybersecurity company that was sold last year to private equity.
I expect further positive developments under Steele's direction, and Splunk's stock is still cheap relative to the software world. Meanwhile, its offerings are more relevant than ever for enterprises looking to secure their growing technology infrastructures. It's a strong software stock to buy and hold.
Alteryx
Another software company going through a move to the cloud is data analytics software company Alteryx (AYX). Alteryx also has a relatively new CEO in Mark Anderson, who became CEO in late 2020. Under Anderson, the company has overhauled its executive team and revamped its product for the cloud.
Alteryx formed a close partnership with cloud data lake specialist Snowflake, which has helped Alteryx gain traction with customers. Alteryx has also made a number of tuck-in acquisitions over the past year, including Hyper Anna, Lore IO, and Trifacta, each of which brought cloud expertise to Alteryx and helped round out its analytics platform. Alteryx recently integrated these new acquisitions with its core Alteryx Designer software into the Alteryx Analytics Cloud, a comprehensive platform aimed at democratizing data analytics for the non-data scientist.
Alteryx's recent results show it's gaining traction. Although the company only reported single-digit revenue growth last quarter, that's due to a misleading accounting rule. Like with Splunk, the crucial figure to watch is annualized recurring revenue (ARR), which grew 30% in the fourth quarter, marking an acceleration over the prior quarter.
Alteryx is on a mission to democratize working with analytics, making it easy enough for business analysts without coding skills to run analytics without cumbersome Excel-based formats. Management sees this as a massive $65 billion and growing opportunity, if it can convince enterprises large and small to adopt its user-friendly software. That compares with just $638 million in ARR last year.
Alteryx appears to be accelerating its product offerings and talent pool to capture that opportunity. As more and more businesses get used to working with large amounts of data to make decisions, Alteryx should benefit. Given that trend, it looks like a strong name to buy and hold, with the stock trading at just 8.5 times sales today.
