Chart of the Day – AutoDesk ($ADSK): Mother of all Double Tops?

by Enis August 19, 2014 12:00 pm • Commentary

AutoDesk has been on my radar ever since I delved into the company’s financials in a bearish trade post in early July, that I eventually took off for a small loss last week ahead of the company’s earnings report.  This was the meat of my argument in the initial trade:

Now, the market is naturally growing for ADSK and ADBE, especially internationally.  ADSK gets around 70% of its revenues from outside the U.S., and its main growth markets are emerging markets where engineers use AutoCAD for new construction projects.  It’s not as if the underlying business wouldn’t grow if the business model remained the one-time software sale as it was in the past.  But investors are optimistic that the potential market opportunity (and increased price discrimination), will increased earnings growth in the long run.

However, consensus analyst estimates expect around $3.10 in EPS in ADSK in 2017, and have modeled out about 10% earnings growth from there, as the subscription model becomes mature.  If ADSK meets those expectations (quite uncertain given that we’re talking 3-5 years out), then the company will have grown EPS from $1.93 in 2012 to $3.09 in 2017.  That would imply an annual earnings growth rate of around 10% per year.  In other words, ADSK seems to be a business that grows around 10% per year, whatever the model.

However, the stock around $55 is already nearly a 18x multiple on the 2017 earnings estimate.  That seems like quite a stretch for a business that is expected to grow 10% after that.

ADSK beat revenue and EPS expectations on its report on Thursday night, but the stock traded lower shortly after the open on Friday.  That was after most analysts raised their price targets and reacted favorably to the strong subscriber growth and higher billings.

One negative from the report was the continued decline in margins, as expenses grew more quickly than revenues.  Analysts have generally looked at Non-GAAP earnings, stripping out the costs of stock-based compensation, but if you look at GAAP earnings, the GAAP operating margin of 4-5% looks dangerously thin for AutoDesk.  Management and the analyst community continue to shine the light on revenue and subscriber growth, but some sellers of the stock on Friday were perhaps more focused on eventual earnings potential and the headwinds to achieving that if expense growth does not abate.

Nonetheless, options traders remain mostly bullish, as total open interest favors calls over puts by a ratio of over 2.5 to 1.  There was a big call buyer yesterday morning, detailed in today’s TMO post:

ADSK – AutoDesk had a big reversal on earnings on Friday, failing to make a new all-time high and then briefly touching a 2 month low.  Buyer of 8k of the Oct 57.5 calls in the morning, paying 1.33 to open.  ADSK’s intraday high this year is $58.68 from February.

The interesting price action on Friday came on one of the largest volume days of the past year, mirroring a similar move in late February:

ADSK daily chart, 200 day moving average in yellow, Courtesy of Bloomberg
ADSK daily chart, 200 day moving average in yellow, Courtesy of Bloomberg

The aggressive selling in the $57-$59 area is an indication that some investors view that as a full valuation for ADSK.  Of course, buyers have become more aggressive on each test of the 200 day ma over the past year.  The 200 day ma is now around $50.75.  ADSK’s remains comfortably above that level for now.

While I still don’t view ADSK as a good investment at these levels, the stock’s behavior to me signals that a rangebound situation is more likely than an imminent break lower (or higher for that matter).  We’ll leave this stock on the watch list, but don’t plan to trade it anytime soon.