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Sage - organic revenue up 6%, interim dividend up 8%

Charlie Huggins | 5 May 2016 | A A A
Sage - organic revenue up 6%, interim dividend up 8%

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Sage Group Ordinary 1 4/77p

Sell: 664.20 | Buy: 664.60 | Change -29.60 (-4.27%)
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Sage achieved 6% organic revenue growth in the first half, led by recurring revenue growth of 10%; and has maintained its full year guidance of at least 6% organic revenue growth and organic operating margin of 27%. The interim dividend rises by 8% to 4.80p per share. The shares were broadly flat in early morning trading.

Within recurring revenue, software subscription grew by 35%, as cloud based products continued to gain traction. This more than offset an 18% fall in Software license revenues, in line with the group's strategy to raise the proportion of higher quality revenue streams. Organic recurring revenue now accounts for 69% of the group total, up from 66% at H1 last year, with the contract renewal rate remaining stable at 84%.

Revenue growth in North America accelerated to 6%, whilst Europe grew at a pace of 7%, both ahead of International, where revenue growth of 5% fell short of the group's expectations.

The operating margin fell one percentage point to 25.4%, meaning organic operating profit grew by only 2% to £189m. This is due to the previously announced investment in sales and marketing which is heavily skewed to the first half. Sage remain on-track to secure annualised savings of c. £50m from General & Admin functions by the end of FY16 with a target payback of under two years.

Our view:

Sage generates prodigious cash flows and benefits from a large base of high quality, recurring revenues. The company is very shareholder-friendly - dividends have grown every year for the last two decades; with the shares currently yielding 2.3%.

Sage provides business management software such as accounting and payroll, which are essential to the day-to-day operations of its customers. It can be both difficult and risky for a business to change their accounting software provider, requiring the retraining of staff and smooth transfer of data from old system to new. This leads to a high contract renewal rate (84% last year) and makes the business relatively recession-proof.

A key part of Sage's strategy is to increase the proportion of recurring revenues, by encouraging its customers to sign up to a subscription-based model. The group appears to be making good progress in this regard. Recurring revenue increased 10% in H1, with especially strong growth in subscriptions. At the H1 stage 69% of revenues were recurring, and this looks likely to rise, given that growth in subscriptions.

Technology disruption is a risk in this industry, but Sage isn't sitting on its laurels. New products such as Sage One appear to be gathering momentum. The group is seeking to 'leap-frog' first generation cloud competitors through integrated latest generation cloud-platform products and through scalable digital distribution channels. Meanwhile, that large bank of recurring revenues makes it very hard for competitors to make significant inroads.

Following a strong run the shares trade at the top end of their historical valuation range, on a forward price to earnings ratio (P/E) of 21.4x. But we think growth prospects for the business look encouraging.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.