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Avalara's (NYSE:AVLR) Q3 Sales Top Estimates, Next Quarter Growth Looks Optimistic


Full Report / November 04, 2021
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Tax compliance software maker Avalara (NYSE:AVLR) reported strong growth in the Q3 FY2021 earnings announcement, with revenue up 41.6% year on year to $181.1 million. Guidance for next quarter's revenue was $184 million at the midpoint, which is 1.16% above the analyst consensus. Avalara made a GAAP loss of $32.5 million, down on its loss of $12.7 million, in the same quarter last year.

Avalara (AVLR) Q3 FY2021 Highlights:

  • Revenue: $181.1 million vs analyst estimates of $170.3 million (6.35% beat)
  • EPS (non-GAAP): -$0.03 vs analyst estimates of -$0.09 ($0.06 beat)
  • Revenue guidance for Q4 2021 is $184 million at the midpoint, above analyst estimates of $181.8 million
  • Free cash flow of $6.37 million, down 68.4% from previous quarter
  • Net Revenue Retention Rate: 116%, in line with previous quarter
  • Customers: 17,400, up from 16,570 in previous quarter
  • Gross Margin (GAAP): 70.7%, down from 72.6% same quarter last year

Founded by Scott McFarlane in 2004, Avalara (NYSE:AVLR) offers software as a service that provides companies with real-time information on how much tax to charge and automates tax compliance.

Transactional taxes are complex, with thousands of rules set by local, regional, state, federal and international authorities. For example, in New York sliced bagel is taxed, but if you just take a plain bagel to go - no tax. Navigating these rules and staying up to date is challenging for any company, but especially for small and mid-sized businesses that have limited resources and have been typically keeping track of tax rates for their products manually in spreadsheets.

Avalara works through integration with a wide variety of point-of-sales systems (cash registers) and online billing platforms like Shopify or Stripe. Every time a customer is about to be charged, either in the real world or online, a request is sent to Avalara to determine the tax. The company maintains a huge database of millions of products and their appropriate tax rates in different geographies worldwide, and within a few milliseconds returns back the correct tax amount to be charged. It then passes the information into the merchant's tax software and even helps with filing the tax.

The company was started with a focus on small and medium size businesses that have until recently been lacking the tools to deal with transaction tax compliance. Most of them are in the United States, but the company also supports transaction tax compliance in Europe, South America, and Asia.

The demand for tax management software is driven by an increase in digital commerce and ongoing adoption of modern technology platforms which are scalable and make it easy to automate business processes.

Avalara is mainly replacing work their customers either used to do manually themselves or with outside help, but there are other software companies operating in this space like Vertex (NASDAQ:VERX), TaxJar, and Thomson Reuters.

Sales Growth

As you can see below, Avalara's revenue growth has been very strong over the last year, growing from quarterly revenue of $127.8 million, to $181.1 million.

Avalara Total Revenue

And unsurprisingly, this was another great quarter for Avalara with revenue up an absolutely stunning 41.6% year on year. But the growth did slow down compared to last quarter, as the revenue increased by just $12.1 million in Q3, compared to $15.4 million in Q2 2021. We'd like to see revenue increase by a greater amount each quarter, but a one-off fluctuation is usually not concerning.

Analysts covering the company are expecting the revenues to grow 21.8% over the next twelve months, although estimates are likely to change post earnings.

Customer Growth

You can see below that Avalara reported 17,400 customers at the end of the quarter, an increase of 830 on last quarter. That is a bit slower customer growth than last quarter but still in line with what we are used to seeing lately, suggesting that the company still has decent sales momentum.

Avalara Customers

Product Success

One of the best things about software as a service businesses (and a reason why they trade at such high multiples) is that customers tend to spend more with the company over time.

Avalara Net Revenue Retention Rate

Avalara's net revenue retention rate, an important measure of how much customers from a year ago were spending at the end of the quarter, was at 116% in Q3. That means even if they didn't win any new customers, Avalara would have grown its revenue 16% year on year. That is a good retention rate and a proof that Avalara's customers are satisfied with their software and are getting more value from it over time. That is good to see.

Profitability

What makes the software as a service business so attractive is that once the software is developed, it typically shouldn't cost much to provide it as an ongoing service to customers. Avalara's gross profit margin, an important metric measuring how much money there is left after paying for servers, licenses, technical support and other necessary running expenses was at 70.7% in Q3.

Avalara Gross Margin (GAAP)

That means that for every $1 in revenue the company had $0.70 left to spend on developing new products, marketing & sales and the general administrative overhead. This is around the lower average of what we typically see in SaaS businesses. Gross margin has a major impact on a company’s ability to invest in developing new products and sales & marketing, which may ultimately determine the winner in a competitive market so it is important to track.

Key Takeaways from Avalara's Q3 Results

With a market capitalization of $15.9 billion, more than $1.53 billion in cash and with free cash flow over the last twelve months being positive, the company is in a very strong position to invest in growth.

We enjoyed seeing Avalara’s impressive revenue growth this quarter. And we were also excited to see that it outperformed Wall St’s revenue expectations. On the other hand, there was a slight slowdown in customer growth. Overall, this quarter's results seemed pretty positive and shareholders can feel optimistic. But the market was likely expecting more and the company is down 1.16% on the results and currently trades at $184 per share.

Is Now The Time?

When considering Avalara, investors should take into account its valuation and business qualities, as well as what happened in the latest quarter. Although we have other favorites, we understand the arguments that Avalara is not a bad business. We would expect growth rates to moderate from here, but its revenue growth has been strong, over the last two years. And while its gross margins aren't as good as other tech businesses we look at, the good news is its customers spend noticeably more each year, which is great to see.

The market is certainly expecting long term growth from Avalara given its price to sales ratio based on the next twelve months is 20.4x. There are things to like about Avalara and there's no doubt it is a bit of a market darling, at least for some.

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