UiPath: Margin Improvements Are Supporting The Stock

Summary

  • UiPath's stock is up significantly in 2022 due to improving sentiment towards growth stocks, AI hype, and rapid improvement in profitability, but growth remains modest.

  • The company has expanded its platform functionality and partnerships, but faces increasing competition from adjacent software segments.

  • UiPath's valuation appears reasonable given its growth and profitability profile, but questions around competitive positioning and terminal value persist.

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UiPath's $UiPath(PATH)$ stock is up significantly off the 2022 lows, on the back of improving sentiment towards growth stocks, AI hype and a rapid improvement in profitability. Growth remains modest though, and UiPath has struggled to attract new customers over the past few years. Continued growth and improvements in profitability should support the current stock price, but the company's long-term competitive position is unclear.

Market

UiPath’s management team hasn’t highlighted macro difficulties to the same extent as many software companies. They have noted that the macroeconomic environment is variable though, including North America, and that this is expected to persist going forward. While this probably means that UiPath has less downside risk than some software companies in the short term, it also suggests that UiPath's weak growth is more likely to be persistent after the market rebounds. This is supported by the fact that UiPath's revenue begun to decelerate sharply in late 2021, predating the onset of general market headwinds.

Job openings mentioning RPA in the job requirements have been fairly stable over the past few years, indicating that demand hasn't softened significantly. Given labor shortages in recent times, it would not be surprising if companies were investing in productivity tools like RPA software.

Job Openings Mentioning RPA in the Job RequirementsJob Openings Mentioning RPA in the Job Requirements

The number of job openings mentioning UiPath in the job requirements have trended downward over the past 12 months which aligns with a slowdown in UiPath's customer acquisitions. Whether this represents an increase in competition is unclear, but UiPath has given no indication that this is the case.

Job Openings Mentioning UiPath in the Job RequirementsJob Openings Mentioning UiPath in the Job Requirements

Search interest for "UiPath Pricing" has demonstrated great strength than RPA search interest in recent months, contrary to job opening data. Both are suggestive of a softening demand environment though.

"UiPath Pricing" Search Interest"UiPath Pricing" Search Interest

UiPath

UiPath continues to add functionality to its platform, which includes adding integrations with other tools and expanding on its AI capabilities. The number of solution accelerators that UiPath offers has nearly doubled. These are automation frameworks that are custom built for specific use cases. Accelerators provide a codebase of reusable components that interact with systems like ServiceNow (NOW) and SAP (SAP). These components provide a starting point for users to implement their own solutions.

UiPath recently added SAP solution accelerators to complement their partnership. This involves combining UiPath’s task mining software with Signavio’s process modelling software. Signavio is a Business Process Management software vendor that was acquired by SAP in 2021. SAP has a large customer base and has achieved deep penetration of the Global 2000, potentially providing a tailwind to UiPath going forward.

UiPath has been developing Clipboard AI, which is now in preview. Clipboard AI utilizes AI to transfer data between documents, spreadsheets and apps. The software is able to develop an understanding of content and automatically insert data into the correct location. This helps individuals to automate workflows, without requiring any coding.

UiPath also believes that there is an opportunity to leverage its technology in application testing. Application testing refers to testing applications a variety of tools to try and identify any possible errors. Combining generative AI and computer vision could help to automate testing through a natural language interface. This would extend UiPath's platform into a new direction and potentially open up a new user base, but competition is likely to be fierce.

UiPath also recently expanded its relationship with Snowflake (SNOW), launching a solution for Snowflake’s Manufacturing Data Cloud that connects data to business processes without requiring complex code.

Like many organizations, there is currently a focus on how generative AI will impact UiPath’s business. Unlike many organizations, AI is core to UiPath’s business and generative AI is likely to be an important development. UiPath believes that generative AI has limited potential by itself and requires automation capabilities to be truly impactful. While this may come through APIs, automation will also like require RPA software in many cases.

Generative AI can also be used to extend automation capabilities, enabling new use cases, and should help to democratize access to RPA tools, allowing knowledge workers to create automation using natural language. UiPath is currently working on a Copilot type of tool which the company has codenamed Wingman. This technology will enable users to create workflows using natural language, which can then be deployed on UiPath’s platform.

While generative AI should provide a demand tailwind, LLMs are proliferating, making advanced NLP capabilities widely available. It is the long-term investments that UiPath has made in more niche areas, like computer vision, that could provide a more sustainable advantage. UiPath’s computer vision capabilities allows things like OCR, extracting data from documents and tracking user behavior. More than 2 million calls are made to UiPath’s AI computer vision service every day. UiPath also utilizes AI in areas like modeling, communications and document understanding.

While UiPath has a strong competitive position within the RPA market, as demonstrated by its large and growing market share. Adjacent software segments are converging, which is creating new competitors and potentially changing the basis of competition.

Palantir (PLTR) recently introduced a Process Mining & Automation Suite which enables customers to visualize their business processes and find inefficiencies. This moves Palantir in the direction of robotic process automation and it will be interesting to see how aggressively Palantir pursues this market in the future. The importance of this is negligible in the near term as Palantir has an extremely small customer base, but it is illustrative of how adjacent verticals are converging over time.

Microsoft (MSFT) recent introduced an analytics platform, which is potentially representative of an indirect threat to UiPath. Fabric is an end-to-end analytics platform that integrates data and tools. At this stage it is not really clear to what extent Fabric represents genuine product innovation versus a marketing rebrand though, as it appears to be largely based on the integration of existing tools, like Azure Data Factory, Azure Synapse Analytics, and Power BI.

Microsoft FabricMicrosoft Fabric

Microsoft plans on leveraging generative AI to help business users extract insights from data. This includes integrating Copilot into the service so that users can create data pipelines, generate code, build machine learning models, and visualize results using conversational language.

UiPath's software is often used to address problems caused by siloed data and disparate system. Tools like Snowflake, that bring data together, and Fabric, that integrate tools, likely undermine some of UiPath's use cases. Low code / no code functionality, and now generative AI, are also making these tools more widely available. In Microsoft's case, it also offers RPA software, which is widely used and could eventually be integrated with Fabric.

Increasing competition is only important to the extent that competitors can replicate UiPath's value proposition. Some of the reasons that UiPath believes that customers choose its platform include:

  • Market-leading technology

  • Breadth of platform capabilities

  • Ability to enable vendor consolidation

  • Ability to drive efficiency

A sustainable advantage could come from:

  • Integrations - UiPath has a large and growing number of integrations with other software.

  • Insight into customer needs - UiPath's large customer base potentially provides insights into functionality that customers require.

  • AI for niche use cases - as one of the largest vendors in the space, UiPath can afford to invest resources in developing AI for niche use cases.

  • Library of automations - Existing customers build a library of automations over time, which would need to be recreated if the company switched vendors.

  • Customer mindshare - widely adopted software can be sticky, even if it is inferior, as users are reluctant to learn how to use new tools. This is less important for low-code / no-code tools which are designed to be easy to adopt.

Financial Analysis

ARR increased by 28% and revenue grew by 21% YoY in the first quarter. Remaining performance obligations increased by 34% over the same period. Revenue growth in the second quarter is expected to be approximately 16% YoY and around 20% for the full year. The expectation of an acceleration in the second half of the year could set investors up for disappointment though.

UiPath Revenue GrowthUiPath Revenue Growth

UiPath has increased focus on customers who have a greater proclivity for investing in automation, with smaller account being transitioned to channel partners. Customer additions in the first quarter were extremely weak, which does not bode well for future growth. Growth of the larger customer segments was better though, reflecting UiPath’s strategy. It is not clear whether this situation is due to teething issues with the shift in go-to-market approach, increased competition or general market weakness.

UiPath Customer GrowthUiPath Customer Growth

UiPath's dollar-based net retention rate was 122% in the first quarter. Dollar-based gross retention was 97%, which is high, and supportive of long-term profitability and suggestive of competitive strength.

UiPath CustomersUiPath Customers

UiPath's gross profit margins have fluctuated somewhat over the past few years, but remain high. This is a reflection of the nature of UiPath's software and the fact that cloud deployments are not currently that important to UiPath.

UiPath Gross Profit MarginsUiPath Gross Profit Margins

Operating profit margins have improved rapidly in recent quarters, which should be expected given the company's size and recent growth deceleration. UiPath is approaching operating profitability breakeven and continues to target a 20% plus long-term target.

UiPath Operating Profit MarginsUiPath Operating Profit Margins

UiPath Operating ExpensesUiPath Operating Expenses

Job openings at UiPath have rebounded from late 2022 lows, but remain well below 2021 levels. This should support ongoing improvements in profitability, but also suggests that growth will remain modest going forward.

UiPath Job OpeningsUiPath Job Openings

Valuation

UiPath's valuation appears reasonable given the company's growth and profitability profile. While an ongoing improvement in margins should support the stock, UiPath must accelerate customer acquisitions in order to sustain long-term growth. AI hype is likely to drive the share price in the near term, but questions around competitive positioning and terminal value will continue to hang over the stock.

UiPath Relative ValuationUiPath Relative Valuation


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