Here’s why OpenText will bounce back

The stock has dropped significantly in recent weeks and apparently not solely due to the general market retreat. But investors on the hunt for a quality name in the Canadian tech space should seriously be thinking about OpenText (OpenText Stock Quote, Charts, News, Analysts, Financials TSX:OTEX). That’s the call from portfolio manager Brian Madden, who thinks the currently negative sentiment on OTEX is misplaced.

“This one we do own here. We would buy it and we are buying it,” said Madden, Chief Investment Officer at First Avenue Investment Council, who spoke on BNN Bloomberg on Tuesday.

“I think the reason why it’s traded off over the course of the last year is because it’s faced tough earnings growth comparisons,” he said. “They made out like bandits during COVID when everybody needed enterprise collaboration software as they learned to work remotely, with hybrid arrangements and that sort of thing. So, they really did well in 2020 and 2021.”

“They’re still doing well — they’re just not growing quite as dynamically as they did in those two booming years,” he said.

OpenText, a cloud-based, enterprise-level information management software company with a $10-billion market cap, saw its share price rise incrementally over 2020 and the first three quarters of 2021, but the last 12 months have been less than stellar. Since hitting a high of $69 last September, the stock has fallen to $37-$38 where it currently trades — that’s a drop of about 54 per cent, representing a major pullback on a name that had been a Steady Eddie growth machine for more than a decade.

OpenText’s financials appear to be in good working order. The company finished up its fiscal 2022 at the end of June and put out a report on the year in early August, showing record annual revenue of $3.5 billion, up 3.2 per cent year-over-year and including record annual recurring revenue of $2.9 billion, up 4.5 per cent. The company’s Cloud revenues were even better, registering $1.5 billion for a 9.1 per cent growth clip. Further, OTEX returned a record $415 million to shareholders via dividends and share repurchases, showing the health and heartiness of its business, while it even increased its quarterly dividend by ten per cent.

“OpenText is more relevant than ever before as we help customers build and own their digital fabrics to transform their organizations and do more with less,” said Mark J. Barrenechea, OpenText CEO, in the company’s fourth quarter press release on August 4. 

“Through our recently unveiled Project Titanium, we have taken a massive step forward in strengthening the OpenText Cloud as a foundation of modern work, digital supply chains, customer experiences and secure computing. OpenText is ready for all economic scenarios, and our outlook for Fiscal 2023 focuses on continued cloud and free cash flow growth,” he said.

The pullback on the stock looks to be in part a feature of an overall souring of the market on tech and growth names. The TSX Information Technology Capped Index is down about 41 per cent over the past 12 months, for example, while the tech-heavy Nasdaq Index in the US is down about 24 per cent over the same period.

But lately, OpenText has had another issue in the form of recently announced acquisition Micro Focus, a UK-based enterprise software company. Announced in late August, the deal is set at $6.0 billion, which is big for OTEX but not unusual in that the company has a long track record of taking on large acquisitions and integrating them into its business. 

But shareholders seemed to have balked at the deal, as Micro Focus’ revenue has been in decline in recent years, while the price OpenText is prepared to pay seems steep.

But Madden says investors needn’t worry, as OTEX’s playbook on making a success out of its acquisitions is tried and true.

“This one’s a bit of a fixer upper, a turnaround story,” he said. “It’s large at a $5.5 billion enterprise value. [OpenText] paid a high premium for it and they purport that they’re going to finance the deal with debt capacity and paying clients and raise money in the high yield market at a time when the high yield markets are not feeling that warm and fuzzy about most issues, frankly, including this one.”

Madden said he’s spoken with OpenText management as well as a number of analysts and he has come away satisfied.

“We think the consternation is going to be unfounded and that they will in fact integrate this deal successfully, and it should be very accretive to their earnings,” Madden said. 

“We think they should be able to arrest the organic growth decline that has set in with Micro Focus in the last three or four years,” he said. “Because OpenText has a great management team and that’s what they do.”