Ceridian stock: Can’t justify its valuation (NYSE: CDAY)
Stock selection is never more important than in a volatile market. Now is the perfect time, in my opinion, to weed out underperforming names and pile our portfolios with high-quality growth stocks that are currently trading at sell-off levels.
However, the steep year-to-date declines are well deserved for some names that have long been trading at levels completely disconnected from their fundamental performance. Ceridian (NYSE: CDAY) is an example here. The Canadian provider of HCM and payroll software has lost 40% of its value since the start of the year, but I still believe that the stock is quite generously valued for a company with relatively limited growth prospects and a brand of second order.
Ceridian recently rallied to year-to-date lows after a relatively strong second-quarter earnings release, but I consider that a rather weak rally in the soon-to-be bear market. reverse.
Given the upward trend in Ceridian’s valuation despite very limited fundamental improvements, I take a bearish position on this security: investors with this name should take advantage of recent short-term gains and invest elsewhere.
Here’s a rundown of why I remain skeptical of Ceridian:
- Low profile against cloud competitors. HCM is a very crowded space, dominated by Workday and Oracle (ORCL), and Dayforce is hardly a distant laggard.
- Heavily in debt. Unlike many SaaS competitors that have large net cash balances, Ceridian has a net debt balance of nearly $1 billion.
- Margin lags cloud peers. While Ceridian’s cloud revenue generates a low gross margin of 70% like its peers, Ceridian’s revenue weighting to floating and other low-margin services puts Ceridian’s overall GAAP gross margin at just 54% in its last quarter, below most SaaS peers and warranting a significant discount in its valuation multiple.
- Confusing leadership structure, with Ceridian just elevating its COO to co-CEO status, while still reporting to the original CEO (seems to me like a catalyst for increased compensation). Recent examples like Salesforce (CRM) indicate that a two-CEO structure often doesn’t last or work well.
Valuation remains the biggest obstacle to a sound investment in Ceridian. At the current share price of nearly $59, Ceridian trades at a market capitalization of $9.02 billion. After deducting $371.2 million in cash and $1.22 billion in debt from Ceridian’s most recent balance sheet (net debt of $852 million), the company the enterprise value is $9.87 billion.
Meanwhile, for the current fiscal year, as shown in the chart below, Ceridian had revenue of $1.218-1.233 billion (+19-20% YoY) and adjusted EBITDA of 210-225 millions of dollars. This is a slight increase in both cases from an earlier outlook of $1.208 to $1.230 billion in revenue and $190 to $205 million in adjusted EBITDA:
This puts Ceridian’s valuation multiples at:
- 8.0 x EV/FY22 turnover
- 45.4x EV/adjusted EBITDA FY22
Those are absurd multiples for a company of Ceridian’s relatively lower caliber. The growth of high teens/young twenties is not warranted to warrant an 8x forward earnings multiple (there are SaaS stocks with a 30-40% growth range trading at similar multiples); Ceridian’s EBITDA is also not enough to justify its market value.
The bottom line here: I continue to see limited appeal for Ceridian. Its recent rally is more of a bear market head fake than the start of a rebound. Avoid here and sell.
Now let’s take a closer look at Ceridian’s latest Q2 results. The second quarter revenue summary is shown below:
Revenue rose 20% year-on-year to $301.2 million in the quarter, slightly beating Wall Street expectations for revenue of $294.5 million (+18% year-on-year) ). We note that revenue growth has slowed by five points compared to 25% year-on-year growth in the first quarter, which in turn had slowed two points from the 27% year-on-year growth in the fourth quarter.
Under the hood, Ceridian’s cloud revenue — which includes its Dayforce core product suite and PowerPay payroll solution — grew 26% year-over-year to $262.9 million, representing about 87% revenues. Float-based revenue also increased to $14.7 million of the total, driven by an approximately 12% increase in client float balances as well as a 28 basis point increase in returns earned on the floating.
So far, the company notes that tightening macroeconomic conditions have not impacted sales. Remarks prepared by co-CEO David Ossip on the Q2 earnings call:
Much of our EBITDA outperformance came from the 230 basis point year-over-year increase in adjusted gross margin on Cloud, recurring at 76.4%. On a macro level, we haven’t seen any slowdown in sales or slowdown in decision-making. Year-to-date sales have increased significantly year-over-year and growth appears to be accelerating. We saw continued momentum across all segments. Transactions over $1 million increased 50% year over year. Mid-market sales are above plan. Base incremental sales continue to be 30%. The number of customers purchasing a suite reached 36% and global traction continues with EMEA and APJ sales both up more than 50% year-over-year. In other words, we are firing on all cylinders and are quite confident about the outlook for the second half.”
That being said, however, since many of Ceridian’s products are based on seats and workforces, we’ll have to watch carefully for the impact of layoffs and slower hiring trends on the company’s revenue going forward. ‘coming.
Admittedly, adjusted EBITDA was a good story in the second quarter. Adjusted EBITDA increased 55% year-on-year to $61.8 million, representing a margin of 20.5% – 460 basis points higher than the prior year quarter. This is explained by an increase of nearly two points in cloud gross margins as well as economies of scale on opex.
Key points to remember
For some reason, Ceridian continues to trade at high valuation multiples despite a fundamental profile that can best be described as average. Now is the time to stock up on high-quality, battered growth stocks — and Ceridian doesn’t qualify here. Sell that name and invest elsewhere.