The Motley Fool

Why I think the Altium share price is a buy

The Altium Limited (ASX: ALU) share price has been one of the ASX’s best performers over the last 5 years, rising from around $3 to nearly $35 today.

Here’s why I think it’s not too late to invest in this popular tech stock.

Scale

Altium has a capital-light business model, as is the case with many other software companies such as Xero Limited (ASX: XRO). As a result, Altium is able to scale extremely well because it costs very little to add an additional subscriber once the initial fixed costs have been incurred.

In other words, Altium has a high degree of operating leverage, meaning that more of its revenue falls to the bottom line.

Switching costs

These are the costs that a consumer or business incurs when changing brands, products or suppliers. Companies with high switching costs are valuable as this typically helps with customer retention and the development of a competitive advantage or economic moat.

I consider Altium to be a company with high switching costs. This is because moving to a competitor’s product – for example, PADS by Mentor Graphics or OrCAD by Cadence – would incur several, and often significant, costs. These costs include retraining staff, redesigning processes and transferring existing product designs.

Therefore, once a business decides to integrate Altium into its design process, it’s difficult to jump ship. In turn, this tends to build customer loyalty and translates to sticky revenue.

Strong balance sheet

Altium has a rock-solid balance sheet, which comprises no debt and a growing cash reserve.

A strong balance sheet is an attractive asset as it is a means of stability and provides a company with greater flexibility when it comes to capital allocation decisions.

High quality, proven performer

The share price success of Altium is no secret, with the company’s shares having performed exceptionally well over a relatively short period since the company’s founder departed in 2012.

Management, led by CEO Aram Mirkazemi, have a strong track record of setting and achieving goals. Its current so-called ‘aspirational’ target is to achieve market dominance by 2025, which it defines as 40% of market share. In order to accomplish this, Altium has committed to reaching 100,000 Altium Designer subscribers and US$500 million revenue by 2025.

Altium is well on its way to achieving this target. FY20 revenue guidance is in the range of US$205 million to US$215 million and management have reiterated the possibility of reaching the halfway mark of 50,000 subscribers as early as this year.

Foolish takeaway

With growing profit margins, sticky revenue and a debt-free balance sheet, Altium ticks many boxes of a high-quality growth share.

At 49x FY20’s estimated earnings, shares certainly aren’t cheap but there’s often a premium to be paid for quality companies of Altium’s ilk.

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Motley Fool contributor catgoh owns shares of Xero. The Motley Fool Australia owns shares of Altium and Xero. 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. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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