Focus On Cloud And AI Technologies Will Expand Addressable Market

Key Takeaways

• Totvs's strategic focus on SaaS and cloud is driving recurring revenue growth and profitability with strong retention rates.
  
• Expansion into under-digitized sectors and investment in AI and cloud offer major growth opportunities.
  
• Uncertainties in disruptive forces and sector reliance could affect TOTVS's future revenue growth, profitability, and capital resources management.

Catalysts

Develops and sells management software, and productivity and collaboration platforms in Brazil and internationally.

• TOTVS has demonstrated a significant turning point in profitability, with EBITDA growing 37% year-on-year, which suggests an expectation of improving net margins and earnings in the future. This is reinforced by their strategy and execution across all business units.
  
• The management business unit has shown strong annual recurring revenue (ARR) growth, adding R$600 million in a year with a 99% retention rate. This positions the company well for sustained revenue growth, particularly in the high-margin SaaS and cloud segments.
  
• Expansion into less-digitized markets such as the Brazilian SMB sector offers a significant opportunity for revenue growth as these markets invest more heavily in technology due to lower historical digitization rates.
  
• The RD Station unit is experiencing margin improvements through economies of scale and integration of newly acquired businesses, indicating potential future margin expansion and earnings growth.
  
• TOTVS's significant investment and focus on cloud and AI technologies are anticipated to drive future growth through access to a rapidly increasing addressable market not fully captured yet, possibly impacting revenue and earnings positively as they leverage their technological edge.

TOTVS Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming TOTVS's revenue will grow by 15.2% annually over the next 3 years.
• Analysts assume that profit margins will increase from 13.8% today to 17.2% in 3 years time.
• Analysts expect earnings to reach R$1.4 billion (and earnings per share of R$2.38) by about April 2028, up from R$718.6 million today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting R$1.7 billion in earnings, and the most bearish expecting R$1.2 billion.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 25.0x on those 2028 earnings, down from 30.0x today. This future PE is lower than the current PE for the BR Software industry at 30.2x.
• Analysts expect the number of shares outstanding to decline by 3.22% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 19.64%, as per the Simply Wall St company report.

TOTVS Future Earnings Per Share Growth

Risks

• The mention of several factors that can impact TOTVS's results indicates potential uncertainties, which might affect the company's revenue and earnings stability.
  
• While management is confident in growth due to market opportunities like cloud and AI, the potential underestimation of disruptive forces could lead to unexpected competition, impacting future revenue growth.
  
• Despite strong current profitability and revenue growth, there are concerns about the sustainability of this trend if TOTVS cannot maintain high product retention rates, which could affect future net margins.
  
• The strong reliance on certain sectors, like agribusiness in their Techfin unit, poses a risk if there are downturns in those sectors, possibly leading to volatility in credit production and net revenue from funding.
  
• Investment in expanding geographical presence and distribution channels might strain capital resources, requiring substantial CapEx and potentially impacting free cash flow if execution does not align with market demand.

Valuation

• The analysts have a consensus price target of R$37.0 for TOTVS based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of R$43.0, and the most bearish reporting a price target of just R$33.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be R$8.0 billion, earnings will come to R$1.4 billion, and it would be trading on a PE ratio of 25.0x, assuming you use a discount rate of 19.6%.
• Given the current share price of R$35.99, the analyst price target of R$37.0 is 2.7% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.