Shares of Workday (WDAY) this week jumped 11% in one session and hit a new 52-week high of $270.65 after the enterprise cloud-software provider reported better-than-expected fiscal Q3 (Oct.) results and offered a solid initial outlook for FY’25 (Jan.).
In the October quarter, subscription revenue rose 18% to $1.69 billion, topping the high end of the guidance range. Subscription revenue backlog (covering the next 12 months) advanced 22% to $6.05 billion, while the 24-month backlog of $10.58 billion gained 22.7%, above forecasted growth of 21%. Operating margin of 24.8% came in above the guide of 23.5%.
Workday continues to see steady demand for its human capital management (HCM) and financial management solutions from both medium and large enterprises. The company was able to raise its FY’24 subscription revenue growth outlook to 19% from 18% previously, while also boosting its operating margin forecast to 23.8% from 23.5%.
The initial FY’25 subscription revenue growth outlook of 17% to 18% came in slightly above the consensus. Workday said it expects to see a continued improvement in operating margin next year.
The company is benefiting from a trend involving enterprises reducing their tech footprints to improve TCO. More large organizations are consolidating numerous best-of-breed solutions onto the Workday platform. These are products that had been purchased over the past three to five years when enterprises were spending freely.
Today, many companies are looking to reduce costs and trim the number of point solutions. It increasingly makes sense for enterprises to consolidate with Workday given the company’s broad product portfolio across HCM, financials, planning and analytics.
In FQ3, Workday continued to see healthy demand for full-platform deals across various industries. In the healthcare vertical, nearly half of all deals landed in the October quarter included the full platform.
At the Workday analyst day in late September, Co-CEO Carl Eschenbach and CFO Zane Rowe ratcheted down the company’s medium-term growth outlook covering the next few years. This move caught the market off guard. The stock, which fell 9% in one session following the analyst day, has rebounded 32% from the early-October low of $202.01.
For the three years through FY’27, Workday now expects subscription revenue growth of 17% to 19%, a downshift from the previous outlook of 20%+ growth for the FY’24 to FY’26 period. Amid a tough spending environment this year in the enterprise market, a return to 20%+ growth over the near-term would be challenging.
But Workday does have the potential to beat the updated forecast next year if the macro proves to be more resilient. The good news is this new conservatism was not caused by anything specifically negative at Workday.
The company has a diversified customer base (with 65 million global users), healthy customer retention rates (gross retention above 95%) as well as excellent up-sell and cross-sell capabilities. In its established HCM business, Workday is still less than 10% penetrated based on available worldwide seats. On the financial management side of the business, only about 25% of enterprises these days have moved their ERP workloads to the cloud.
On Wall Street, bullish price targets are now clustered in the $270 to $290 range, with several firms at $300. BofA raised its Workday target to $300 from $270, saying the initial FY’25 outlook for subscription revenue growth likely shows continued conservatism given the macro environment.
Piper Sandler hiked its target to $300 from $275, saying the latest results give it increasing conviction about the durability of growth and the margin trajectory entering 2024.
Piper remains long-term positive on Workday for several reasons, including a new focus on raising the partner-sourced new annual contract value (ACV) contribution (from 3% last year) and the addition of more sales reps specifically for financial management products. There’s also a potential $2 billion of up-sell & expansion opportunities at the top 100 customers, a renewed focus on international build-out and a fresh sales playbook aimed at small & medium enterprises.
Morgan Stanley upped its target to $295 from $245, calling out durable growth and continued margin expansion. The firm thinks the medium-term targets shared at the Workday analyst day were conservative.
TD Cowen raised its Workday target to $285 from $260, noting that FQ3 growth in 12-month subscription revenue backlog accelerated 100 basis points sequentially. The firm thinks Workday’s AI capabilities (including the eventual addition of conversational AI) will be a longer-term driver.
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