Here’s Why Constellation Software Is a No-Brainer Tech Stock

Despite its stellar returns, Constellation Software stock trades at a reasonable valuation today, making it a top investment for shareholders.

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Constellation Software (TSX:CSU) is a Canadian tech giant that has outpaced the broader markets by a wide margin since its IPO (initial public offering) in May 2006. In fewer than 18 years, CSU stock has returned a staggering 19,680% to shareholders. After adjusting for dividends, these returns are much higher at 24,480%.

So, if you’d invested just $100 in CSU stock soon after its IPO, it would be worth close to $25,000 today. Valued at $76.5 billion by market cap, Constellation Software is among the largest companies in Canada. Let’s see why it remains a top stock to own in 2024.

An overview of Constellation Software

Constellation Software acquires, manages, and builds vertical market software businesses. Typically, these businesses provide a range of mission-critical software solutions addressing the specific needs of customers in niche markets, resulting in higher customer retention and engagement rates.

Constellation Software focuses on acquiring businesses with growth potential and high profit margins, which has been a key driver of sales and cash flows for the tech heavyweight in the past.

Constellation Software’s revenue consists of software license fees, maintenance fees, professional fees, and hardware sales.

How did Constellation Software perform in Q3 of 2023?

In the third quarter (Q3) of 2023, Constellation Software reported revenue of $2.12 billion, an increase of 23% year over year. In the last three quarters, the company’s sales rose by 27% to $6.1 billion, which is remarkable given the challenging macro environment.

Constellation Software attributed top-line growth in Q3 primarily to acquisitions, as organic sales were up 8% year over year in Q3.

Constellation Software emphasized that the capital deployed on acquisitions and dividends exceeded operating cash flows in the last nine months. It ended Q3 with $1.07 billion in cash, up from $811 million at the end of 2022. Its debt balance increased from $1.97 billion to more than $3 billion in this period.

Constellation Software deployed $1.4 billion towards acquisitions in the first nine months of 2023, compared to $1.5 billion in the year-ago period.

One of the companies Constellation Software acquired in 2023 was WideOrbit, a software business that operates in the advertising market for cable networks, local television, and radio stations. It also acquired Optimal Blue, another software company operating in the mortgage segment.

Due to a diversified portfolio of software businesses and a subscription-based business model, CSU generates cash flows across market cycles, allowing it to pay shareholders an annual dividend of $5.35 per share, translating to a yield of just 0.15%. However, these payouts have risen by 34% in the last 11 years.

Is CSU stock undervalued?

Despite its outsized gains, Constellation Software stock trades at 34 times forward earnings, which might seem expensive. But analysts tracking the TSX tech stock expect adjusted earnings to grow by more than 40% annually between 2024 and 2027, allowing CSU to command a premium valuation.

Moreover, Constellation Software is forecast to increase revenue from $9 billion in 2022 to $13.22 billion in 2024.

In summary, Constellation Software is a diversified, high-growth tech company trading at a reasonable valuation, making it a top investment choice in 2024.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Aditya Raghunath has no position in any of the stocks mentioned. The Motley Fool recommends Constellation Software. The Motley Fool has a disclosure policy.

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