Cloud Command
In this edition of the Smart Investor newsletter, we examine the stock of a global leader in cloud-based customer experience and financial crime prevention solutions. But first, let’s dive into the latest Portfolio news and updates.
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Portfolio Updates
❖ Howmet Aerospace (HWM) saw its shares hit record highs after the aerospace and defense company reported stronger-than-expected earnings and revenue which came in broadly in line with estimates. HWM’s earnings outperformance was fueled primarily by a strong growth in the commercial aerospace sales. The company also achieved a significant debt reduction over the past quarter, bringing its leverage to a record low, and generated robust free cash flows. Looking ahead, Howmet Aerospace is optimistic about its future growth prospects, particularly in the commercial aerospace sector, which is supported by a substantial order backlog. The company anticipates a 7.5% revenue growth in 2025, with continued strength in defense aerospace and industrial markets, although commercial transportation is expected to remain subdued until the second half of next year.
❖ Texas Pacific Land (TPL) added to its stock outperformance, which brought year-to-date gains to over 170%. The Permian Basin landowner reported continued strong performance in key revenue streams, with surges in produced water royalties and water sales leading revenue expansion. During the quarter, Texas Pacific Land acquired significant acreage and royalty interests, which are expected to enhance future revenue streams. TPL also raised its regular dividend by 37%.
❖ Arista Networks (ANET) reported strong Q3 results, with the EPS far exceeding estimates and revenue coming in better than expected. ANET also guided for higher-than-anticipated revenue and operating margins in the ongoing quarter, as the company continues to benefit from spending increases tied to cloud computing and AI. Additionally, the company announced a four-for-one forward stock split, effective on December 3rd. Despite the strong report, ANET’s stock dipped following the release of a conservative 2025 revenue guidance, which was in line with estimates at the midpoint. However, analysts believe that the company, known for its cautious outlooks and subsequent overachievements, will surpass its guidance yet again. Thus, analysts from Evercore ISI, Piper Sandler, and UBS raised their price targets on the stock following the earnings release.
❖ Arch Capital Group (ACGL) has declared a special cash dividend of $1.9 billion to common shareholders, representing $5 per share, payable to common shareholders of record on November 18th.
❖ Salesforce (CRM) saw its stock surge after announcing its plans to hire more than 1,000 new employees into its sales division. According to company’s CEO Marc Benioff, CRM’s hiring surge is targeted at capitalizing on “amazing momentum” for its new Gen AI platform Agentforce. The new platform, released less than a month ago, allows businesses to build autonomous AI agents. According to analysts, the new product cements CRM’s leadership in AI-powered enterprise solutions, promising significant future growth.
❖ Taiwan Semiconductor Manufacturing (TSM) notified Chinese chip design companies that it would immediately halt production of advanced AI chips. According to the media reports, the chip-foundry giant’s announcement follows an order given by the U.S. Department of Commerce, which imposed export restrictions on chips at advanced process nodes of 7 nanometers or smaller, used in AI applications.
In other company news, Taiwan Semiconductor revenue for October rose 29.2% year-over-year, bringing its growth for the period between January through October to 31.5%.
In yet another news, Needham analysts believe that the CHIPS and Science Act, aimed at supporting American semiconductor research, development, and production, is safe under the new administration. The act, originally drafted during the first Trump term, was one of the most bipartisan bills passed during the Biden administration. While Trump 2.0 may pause the act for reassessment, Needham anticipates the companies named to receive funds through the CHIPS Act, including TSM, will continue benefiting from federal support initiatives.
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Portfolio Stocks Under Review
❖ Adobe (ADBE) remains under review, where it was placed following its stock underperformance after underwhelming FQ4 guidance. Despite reporting strong FQ3 results that beat analyst expectations, ADBE’s investors were concerned about signs of decelerating growth. There were also worries about Adobe’s competitiveness in the rapidly evolving AI-powered software market. While Adobe remains a leader in its field with strong financials, these factors combined to create uncertainty about its near-term growth prospects.
However, we began observing a positive trend after the company’s annual Adobe Max conference on October 14th, which was rife with exciting news that created tailwinds for the stock’s rebound. ADBE made several major announcements, highlighting significant advancements across Adobe’s Creative Cloud suite, including the launch of over a hundred new features. Putting a strong emphasis on AI-powered products, the company unveiled new AI-enhanced tools in Illustrator and InDesign, updates to the Substance 3D content creation tool, and a beta version of a new web-based app for in-browser creation and editing of 3D content.
In addition, Adobe introduced significant updates enabled by its highly successful AI model, Adobe Firefly, which has already gained widespread adoption. The most notable development was the launch of Firefly Video, a new AI video-generation tool, which confirmed Adobe’s capability to pose strong competition to other generative AI tool providers. Adobe’s generative video AI is differentiated by its integration into its creative tool suite, which is expected to enhance user retention and platform consolidation, increasing product stickiness and revenue growth.
Additional positive development came this week, as ADBE announced a new AI-infused tool set for editing stock photos from its image library. As with its other AI-backed tools and solutions, the company ensures commercial safety and fair usage (i.e., that its models are trained on data to which ADBE has commercial rights, and that the original creators receive compensation).
Adobe’s approach of adding useful AI features to its most popular offerings is viewed by analysts as a path to fortify Adobe’s market position while streamlining its AI monetization process. Wall Street brokerages rate ADBE as a “Buy,” with an average price target implying a ~18% upside in the next 12 months. According to Goldman Sachs, Bank of America, and others, Generative AI tools will be a meaningful component to Adobe’s revenue growth. These assumptions will be put to the test on December 11th, when ADBE reports its FQ4 earnings.
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❖ Applied Materials (AMAT) remains under review. As a reminder, we placed AMAT in this bracket following its weak stock performance in the past month.
Applied Materials continues to perform well fundamentally, as seen in its solid revenue and earnings reports, and most of its recent stock underperformance can be attributed to semiconductor sector cyclicality, discussions about new U.S. regulations on chip exports to specific countries, and other external factors. The company’s shares have generally followed the market trends for the wider semiconductor sector but opened a down gap versus iShares Semiconductor ETF in mid-October.
That gap was the result of one company-specific factor weighing down the stock: exposure to the Chinese market. Applied Materials has reduced its exposure to China, with sales in China dropping from 43% of total sales in FQ2 to 32% in FQ3. This reduction was part of a strategic decision to mitigate risks associated with the geopolitical tensions and trade restrictions involving China. However, the shift had a mixed impact, as the Chinese market was a major source of revenue for the company. While AMAT’s long-term prospects are bright, it remains to be seen whether AI-related revenue can replace the lost Chinese sales in the short term.
However, there have been some positive developments related to AMAT’s exposure to Chinese suppliers. According to the WSJ report, Applied and other U.S. semiconductor producers are taking proactive steps to reduce their reliance on China-made inputs as they expect the technology trade restrictions to accelerate. The leading U.S. chip toolmakers, including AMAT, are reportedly instructing their suppliers to phase out Chinese components. These companies are making it clear to their suppliers that continuing to use Chinese parts could jeopardize their vendor status.
As AMAT releases its FQ4 earnings this week, we will be closely watching the report in terms of developments related to the company’s exposure to China and for clues about its effects on forward revenue guidance.
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Portfolio Earnings and Dividend Calendar
❖ The Q3 2024 earnings season is beginning to wind down, but several Smart Portfolio holdings are still scheduled to release their quarterly results in the next few weeks. This week, we are expected to receive the fiscal Q4 results of Applied Materials (AMAT).
❖ The ex-dividend date for Diamondback (FANG) is November 14th.
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New Buy: NICE Ltd. (NICE)
NICE Ltd. provides cloud-based software solutions for customer engagement and financial crime prevention. NICE’s services include advanced analytics, AI-driven customer insights, and risk management solutions designed for the customer service and compliance markets.
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From Voice Recording to AI Cloud Platforms
NICE Ltd. was established in 1986 in Israel, initially focusing on developing telephony voice recording systems and ATM software, which laid the groundwork for its future in customer interaction solutions.
In 1991, NICE listed its shares on the Tel Aviv Stock Exchange. An initial public offering on the NASDAQ in 1996 under the ticker symbol “NICE” marked its entry into the U.S. market. Over the years, NICE has evolved into a global leader in cloud-based customer engagement and financial crime prevention solutions.
The company’s strategic growth included several key acquisitions, with one major milestone being the acquisition of inContact in 2016. This acquisition enabled NICE to offer cloud-based contact center solutions, marking a strategic shift toward cloud services.
In 2018, NICE acquired Mattersight Corporation for $90 million, integrating behavioral analytics into its portfolio. The company further expanded its digital customer experience capabilities by acquiring Brand Embassy in 2019 and MindTouch in 2021. In December 2023, NICE completed the acquisition of LiveVox, a move aimed at enhancing its conversational AI capabilities and proactive outreach solutions.
Beyond M&A activities, NICE has expanded its offerings through robust internal product development, consistently investing in proprietary technologies to maintain its competitive edge. NICE has developed CXone, a unified cloud-native platform that integrates various customer experience (CX) applications – from AI chatbots to voice conversations – enabling organizations to manage customer interactions across multiple channels efficiently.
The CXone platform includes several AI tools, including Enlighten AI, an artificial intelligence engine designed to provide deep insights into customer interactions, facilitating personalized experiences and operational excellence.
In addition, NICE Actimize, a subsidiary of NICE Ltd., offers a suite of cloud-based financial crime and compliance solutions designed to help organizations detect, prevent, and manage financial crimes effectively. These include Actimize Essentials, an integrated Anti-Money Laundering (AML) and fraud solution, Xceed, an all-in-one AI-powered solution for real-time monitoring and intervention to prevent fraud, X-Sight, an autonomous financial crime management platform-as-a-service, and IFM-X, a modernized fraud management platform that combines extensive data, agile analytics, and transformed operations.
By integrating strategic acquisitions with continuous internal innovation, NICE Ltd. has solidified its position as a leader in its field. These initiatives have also supported the company’s global expansion, allowing it to serve over 25,000 organizations in more than 150 countries, including over 85 of the Fortune 100 companies.
NICE is currently undergoing a major change in leadership, as its long-serving CEO is set to step down at the end of the year. The company has appointed Scott Russell as the new CEO, effective January 1st, 2025. Russell brings extensive experience in the enterprise software sector, having previously held key positions at SAP and IBM. This leadership transition is expected to influence NICE’s business development strategy, potentially accelerating its focus on cloud-based solutions and AI. Russell’s appointment highlights NICE’s strategic emphasis on growth and innovation, aiming to further strengthen its market position.
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Solid Business Model and Recurring Revenues
NICE generates revenue through a combination of subscription-based services, software licensing, and professional services. The subscription model, particularly for cloud offerings, provides a steady income stream and fosters long-term customer relationships.
The company has successfully transitioned to a Software-as-a-Service (SaaS) business model, a process initiated with its 2016 acquisition of inContact, a leader in cloud contact center solutions. Since then, NICE has continued to expand its cloud portfolio, reinforcing its commitment to the SaaS model. This transition has significantly accelerated NICE’s business expansion and revenue growth through several key advantages.
Offering cloud-based services through SaaS has facilitated scalability and global reach, enabling NICE to serve a broader customer base worldwide without requiring substantial on-premise infrastructure. This is possible due to reduced deployment barriers, centralized maintenance and updates, a scalable multi-tenant architecture, and improved data access and remote accessibility.
Moreover, NICE’s SaaS model supports rapid innovation, allowing the integration of advanced analytics and AI-driven tools like Enlighten AI directly into its platforms. These capabilities deliver added value to customers, boosting NICE’s competitive position and accelerating market adoption.
The SaaS model provides NICE with predictable, recurring revenue from subscription-based services. This shift has helped NICE achieve a steady stream of income, with recurring revenue now representing approximately 87% of the total. Additionally, the SaaS model improves customer retention and upsell opportunities. For example, the CXone and X-Sight platforms offer modular add-ons and AI-driven analytics, fostering deeper customer relationships.
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Robust Financials and Ample Cash
NICE checks all the boxes in terms of financial health. Its rock-solid balance sheet features more cash than debt, which is very low and well-covered by operating cash flows. The company also earns more interest than it pays, so coverage of interest payments is not a concern.
While NICE’s ROE, ROA, and ROIC cannot be called outstanding, they make the top 30% of the Software industry. Besides, these capital efficiency metrics have been constantly rising over the past five years. Meanwhile, the company’s gross, operating, and net profit margins are in the top 15% of its industry. NICE especially excels in cash generation, as reflected in its best-in-class FCF margins and rising operating cash flow, which underscore its strong operational performance and financial health.
In the past three years, the company’s revenues have grown at a CAGR of 13.5%, accelerating after a pandemic-induced slowdown. In the same period, NICE’s earnings-per-share increased at a robust CAGR of 25.5%. Analysts expect the company’s earnings growth to accelerate in the next couple of years as it capitalizes on strong demand for cloud solutions and the rapid adoption of AI tools and solutions across the corporate universe. With almost 80% of the customer experience market still operating on premise, NICE is expected to be one of the main beneficiaries of the vast migration to the cloud.
In addition, Oppenheimer analysts have recently included NICE in the list of their recommended “second derivative plays” expected to profit from surging data center demand. As organizations migrate to cloud infrastructures hosted in data centers, they seek advanced cloud-based applications, and NICE’s platforms are well-positioned to meet this demand. Moreover, increased efficiency of storage and processing of large datasets enhances the effectiveness of NICE’s analytics and AI-driven tools, while robust infrastructure of data centers supports the scalability and performance of its cloud-native solutions.
NICE’s financial performance is supported by the superior capabilities of its platforms in functional AI, which is rapidly gaining recognition. Particularly, large corporations are drawn to the native cloud architecture of CXone, the only platform in the market that seamlessly integrates digital and voice CX solutions. The platform’s ability to handle 100 million customer interactions per month translates into significant scale and data advantages, creating notable barriers to entry for competitors.
These advantages allow NICE to quicky gain large corporate clients. Thus, on its Q2 2024 earnings call, the company revealed several significant deals where customers replaced their existing platforms with CXone. NICE said it secured a seven-digit contract with “one of the world’s largest IT companies,” in addition to several seven- and eight-digit contracts signed over the last few quarters. In June, the company revealed its largest-ever eight-digit CXone deal with a customer in the APAC region.
In addition, NICE’s revenue growth is supported by its extensive partnerships with technology majors. Thus, NICE has expanded its partnership with Microsoft, achieving Top Tier status as a Microsoft Azure IP Co-Sell partner. This allows NICE to offer its CXone platform natively on Azure, enabling deeper collaboration and go-to-market momentum between the two companies. In addition, NICE collaborates with Google Cloud to improve digital conversations and self-service experiences. Moreover, the company has established significant partnerships in industries such as financial services, healthcare, and government.
In August, the company reported outstanding Q2 2024 results, surpassing analyst estimates on all accounts. Total revenues increased by 14% year-over-year, driven by growth of 26% in cloud revenue, which accounted for 73% of the total. Meanwhile, EPS rose by 24%, operating margin expanded, and operating cash flow surged by 160%.
Notably, NICE also revealed record CXone bookings, expected to support revenue growth going forward. As the company’s Q2 AI revenues surged by 38% year-on-year, bookings for its AI tools soared by 134%. Moreover, the number of deals greater than $1 million in annual contract value (ACV) that included AI jumped 100%, showing growing customer interest and investment in NICE’s AI-enabled solutions on a substantial, recurring basis.
Following the Q2 results release, NICE raised its EPS guidance for the full year 2024, anticipating an increase of 22% in earnings-per-share, while revenues are expected to rise by 15% from 2023. It also guided for Q3 revenue growth of 13% year-on-year, and EPS growth of 18%. The Q3 projections will be put to the test on November 14th. NICE has never missed on its own EPS estimates or on analyst earnings projections, and is expected to exceed them again this week.
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Total Return In Focus
NICE’s stock returned only about 13% over the past 12 months, underperforming the S&P 500. The stock experienced a significant drop between the end of March and the beginning of June 2024, which was driven by the general market risk-off sentiment at the time but was strongly exacerbated by the announcement about its CEO’s impending resignation, which injected uncertainty into NICE’s outlook.
However, the stock bounced back in August, following the announcement of the new CEO’s name and the release of stellar quarterly results. These developments also led several major brokerages to raise their price targets on the stock. Currently, top Wall Street analysts project an average upside of 39% for NICE in the next 12 months.
As a result of its weak stock performance over the last year, NICE is currently strongly undervalued. It is traded at about a 25% discount to the Technology sector averages and comes at the bottom of the price scale for its U.S. large- and mid-cap peers. Moreover, based on projected cash flows, the company trades about 40% below its fair value. While NICE demonstrates strong revenue and earnings growth, its valuation, as reflected in PE ratios, is moderate compared to most of its peers. When comparing NICE’s free cash flow expansion rates to those of its peers in the industry, its multiples appear to be strikingly low.
NICE’s stock price appreciation potential is supported by its generous buyback strategy. The company repurchased $145 million worth of shares in 2022 and $288 million in 2023, adding another $41.5 million in Q1 2024. In Q2, NICE accelerated its repurchases under a $300 million share buyback program in place since November 2023, repurchasing shares for a $146 million. The company said it plans to complete the program by the end of Q3. Meanwhile, NICE’s board authorized an additional $500 million share repurchase program, reflecting the company’s commitment to enhancing shareholder value and demonstrating the management’s confidence in the strength of NICE’s business and its long-term growth prospects.
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Investing Takeaway
NICE Ltd. is a global leader in cloud-based customer engagement and financial crime prevention solutions, recognized for its strategic acquisitions and innovation in AI-driven analytics. The company’s shift to a SaaS model, backed by strong recurring revenues and a robust product portfolio, enhances scalability and customer retention. NICE’s solid financial health, highlighted by strong cash generation and consistent share repurchases, underscores its commitment to shareholder value. With expanding partnerships and accelerating demand for cloud solutions, NICE offers a resilient, growth-oriented investment in the tech-driven customer experience and compliance markets. As such, we view it as a valuable addition to the Smart Investor Portfolio.
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New Sell: Agilent Technologies (A)
Agilent Technologies, Inc. is an analytical instrumentation development and manufacturing company, which provides analytical instruments, software, services, consumables, applications, and expertise for laboratories, addressing the full range of scientific and laboratory management needs.
Agilent boasts excellent financial health with a low net debt-to-equity ratio and investment-grade credit ratings. The company’s fundamental strength is also displayed in its high ROE, ROA, and ROIC, as well as its industry-leading margins.
Agilent’s leading positions in its largest end markets, solid operations, strong cash flows, and resilience supported by diversification have helped it overcome macroeconomic headwinds. Though the company experienced relatively stagnant revenue growth over the past several years, it nonetheless managed to achieve significant earnings growth and margin expansion. This was achieved through operational efficiency improvement, cost reduction, focus on high-margin segments, digital advancements, and strategic acquisitions in adjacent spaces that helped maintain its competitive position and improve overall profitability.
The company reported better-than-expected results for its fiscal Q3 2024. However, revenues and earnings continued to trend lower year-on-year as most of its business segments were pressured by constrained capex spending, while weakness in Chinese demand added to impact on sales across divisions. As these trends are ongoing, the company guided for slight year-on-year declines in revenue and EPS in fiscal 2024, despite raising its estimated ranges from the previous outlook published earlier this year.
While Agilent continues to invest in growth opportunities and strategic transformation initiatives, the market appears to be focusing on the immediate challenges facing the company. The post-election uncertainty regarding U.S. trade relations with China, which represents a significant market for Agilent’s products and services, added to negative investor sentiment towards the stock.
We plan to revisit this life-science tools and diagnostics champion in the future, but for now, we view it as prudent to sell the stock.
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Smart Investor’s Winners Club
The 30% Winners Club includes stocks from the Smart Investor Portfolio that have risen at least 30% since their purchase dates.
The post-election rally has contributed to our Portfolio performance, with our exclusive club ranks expanding to include 19 members (out of total of 34 holdings). These are GE, AVGO, ANET, EME, TPL, ORCL, TSM, PH, HWM, APH, ITT, GD, IBKR, PNR, CHKP, KKR, CRM, AMAT, and PYPL.
The next in line to join the lucrative club is now DELL with a 19.03% gain since purchase. Will it close the gap, or will another stock outrun it to the finish line?
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Disclaimer
The information contained in this article represents the views and opinions of the writer only, and not the views or opinions of TipRanks or its affiliates and should be considered for informational purposes only. TipRanks makes no warranties about the completeness, accuracy, or reliability of such information. Nothing in this article should be taken as a recommendation or solicitation to purchase or sell securities. Nothing in the article constitutes legal, professional, investment and/or financial advice and/or takes into account the specific needs and/or requirements of an individual, nor does any information in the article constitute a comprehensive or complete statement of the matters or subject discussed therein. TipRanks and its affiliates disclaim all liability or responsibility with respect to the content of the article, and any action taken upon the information in the article is at your own and sole risk. The link to this article does not constitute an endorsement or recommendation by TipRanks or its affiliates. Past performance is not indicative of future results, prices, or performance.
