Qualys: Checking All the Right Boxes

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Intro

Qualys has performed quite well over the past decade, and it is apparently checking all the right boxes.  I expect its stellar performance to continue.  In the last 10 years, shares of Qualys have produced a +944.1% return on investment.  It's also been doing so at a 26.7% compounded annual growth rate.  The average per year Return in the last 10 years is about 26% for Qualys shareholders.  This compares to an average return of about 13% for the S&P 500, so this money investment is definitely beating the market.

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Background

Qualys is a global provider of cloud-based information technology (IT), security, and compliance solutions. It produced its Vulnerability Management (VM) cloud solution in the year 2000, one year after the company was founded.  Since then, its product offering has evolved. The complete suite of cloud solutions now called the Qualys Cloud Platform and includes IT security, Compliance, Web App Security, Asset Management, and Cloud/Container Security.  

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Cloud solutions account for most of the company's revenue, but it also provides its services based on a subscription SaaS model (Software as a Service).  Subscriptions are renewable annually and allow customers to access each of the cloud solutions for a fee.

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In providing its services, Qualys is again checking all the right boxes. Its customer base now includes a majority of companies listed on the Forbes Global 50. It has established strategic partnerships with leading cloud providers including Amazon Web Services (AWS), the Google Cloud Platform, and Microsoft Azure. About 41% of revenue in 2022 was generated by channel partners.

Investment Analysis

Evaluating key financial metrics further reinforces that Qualys is checking all the right boxes. The success of Qualys's business model is reflected in its strong growth, which is also coupled with strong profitability. Executives are forging long-term growth while also deploying shrewd money management practices. In the past year, Revenue has grown 19.1% year-over-year.  

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Revenue has also experienced an average 5-year growth rate of 16.1%.  This is above the sector median average in both instances.  And while earnings growth slowed last year (EBITDA - earnings before interest taxes depreciation and amortization) with only 9.47% YoY growth, it has experienced a nearly 23% average growth rate over the past 5 years.

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Driving that revenue and earnings growth is a strong base of corporate clients.  Qualys has more than 10,000 customers worldwide, and no single customer accounts for more than 10% of total revenue. It is achieving revenue growth from existing customers through increasing demand for subscription renewals and additional purchases, as well as the addition of new customers.  

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The total increase of $78.6M in revenues for FY'22 vs FY'21 was based 80% on existing customers with the remaining 20% due to new customers.  Additionally, 51% of that increase were related to customers based in the U.S. and 49% related to customers in foreign countries.  Additionally, of the total increase of $78.6 million, 53% was direct and the remaining 47% was from partners.  This reflects how a broad and diverse customer base is driving Qualys' growth. And there's much more growth on the horizon.

Profit Margins

Profit margins for Qualys are extremely healthy and growing. In the past year, gross profit margin was a whopping 79%.  It has averaged about 77% over the past 5 years, up from 76% in 2018. Operating income has been increasing annually as well. And operating margins have similarly been expanding from 18% in 2018 to nearly 27% in 2022.  

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Expanding margins are clear indicator of effective money management, a strong business model, and a competitive advantage. Its competitive advantage is highlighted by its cutting-edge Cloud Platform that combats new threats and keeps clients informed about emerging viruses. Qualys just needs to keep innovating to drive brand loyalty while locking in customers with long-term subscriptions.

Free Cash Flow

Qualys is also a strong generator of Free Cash Flow.  High levels of Free Cash Flow are typically associated with well-established, market leaders with durable competitive advantages. High levels of FCF demonstrate great ability to pay down debt, pay dividends (although Qualys doesn't do so yet), buy back shares, and facilitate growth.

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The Free Cash Flow Margin for Qualys was a strong 39.2% in 2022, and it has increased at an average annual rate of 30% over the past 5 years.  In addition to excellent levels of appreciation in its stock value, Qualys also returns value to shareholders via a share buyback program. It has $173M in cash sitting on its balance sheet and no long-term debt aside from $29M in long-term capital lease obligations.

Profitability Returns

Profitability ratios also reflect that Qualys is checking all the right boxes.  In the past 5 years, the level of share repurchases has more than tripled.  Qualys spent $99M on share repurchases in 2018. By 2022, it spent $335M on share repurchases.  This is absolutely to the benefit of shareholders, and it's reflected in the increasing levels of Return on Equity.  ROE increased from a high16.3% in 2018 to an even higher 29.8% in 2022.  

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So, clearly management is effectively deploying capital.  Even more importantly, Qualys displays increasing levels of high Return on Invested Capital (ROIC), which has averaged about 22.9% over the past 5 years.  Return on Assets has also been increasing with an average of 11.3% over the past 5 years.  As such, management is not only deploying capital effectively but leveraging its assets beneficially as well.

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As mentioned by Nasdaq, Qualys is perhaps the most profitable SaaS company with an EBITDA margin of 37%.  However, the market doesn't reward software companies strictly based on profitability, but instead on revenue growth and gains in market share.  Qualys is a bit larger and more established than it's key VM competitors.

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So while revenue is indeed growing at a fairly high rate, the level of revenue growth is still half that of Tenable and Rapid 7, suggesting that Qualys is losing market share. This is one of the reasons why the company's stock is languishing.  Eventually the stock price will better reflect the value (i.e., high FCF and high Returns) that Qualys offers. Growth is desirable, but profitable growth with high Returns on Capital are what we like to see.

Future Outlook

The stage has been set, and the future looks bright for Qualys.  With strong past and current performance, Qualys has a business model that should continue checking all the right boxes.  Revenue is expected to grow 15.3% this year, and analysts expect it to average 15% growth at least through 2024. EBITDA is also projected to experience +10% growth.  The company is moving into other areas of cybersecurity too. That market is projected to grow at a compounded annual rate of 10.9% through 2027, which will benefit Qualys well.  

The forward P/E ratio of Qualys is 29, which is expensive on average. But given the stable growth in their Free Cash Flow and earnings, I'm not surprised by the premium on the share price.  The stock is down, however, -3% in the past year and -22% in the past 6 months.  

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Qualys is likely to continue checking all the right boxes. Compared to key competitors, its stock is fairly priced. Most competitors aren't even profitable so a relative valuation on P/E ratio isn't viable. But even looking at Price-to-Sales suggests that Qualys' stock is fairly priced. And it's likely to rebound to higher levels in the near term and definitely in the long-term.

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Conclusion

Qualys has been achieving solid growth in many aspects, and the future looks bright.  In contrast to key peers and other high growth companies, it is not operating at a loss.  And it doesn't have significant amounts of debt.  Quite the opposite actually.  The company is hugely profitable, operating at high margins. It has practically no debt and a nice cash surplus that it's using to buyback shares.  

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So the growth is not coming at the cost of profitability.  Additionally, both the VM and Cybersecurity industries are ripe for continued future growth.  And Qualys's growth reflects that fact that its Cloud Solutions platform is widely used and highly favored.

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With the company checking all the right boxes, Qualys is presenting itself as a truly great money investment option.  Its stock presents as one of the best ways to invest money right now for long-term wealth creation.

Disclosure/Disclaimer

The information provided on this site is based on my own personal experience, research, and analysis, and it is not to be construed as professional advice. Please conduct your own research before making any investment decisions.  I am not a professional financial advisor, stockbroker, or planner, nor am I a CPA or a CFP. The contents of this site and the resources provided are for informational and entertainment purposes only and do not constitute financial, accounting, or legal advice. The author is not liable for any losses or damages related to actions or failure to act related to the content on this website.