Constellation Software (TSX:CSU) is one of the priciest stocks at $4,368. One stock is worth an average Canadian’s monthly income. Would you spend one month’s income to buy one share of Constellation Software? That’s where most investors miss out on the opportunity. You may argue that the stock is trading near its all-time high and it goes against the rule of buy the dip and sell the rally.
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Constellation Software stock is a buy even at today’s price
However, Constellation Software is still a buy even at this price because the price will keep compounding. The stock price keeps ballooning as the company adds new vertical-specific software companies to its portfolio. Each of these acquired companies brings a fixed amount of cash flow from maintenance services. Think of it like when you buy new apartments every year and each apartment earns a steady flow of rent.
And Constellation uses the cash flow that comes from these companies to buy more companies. The net worth of Constellation is the sum of the value of all companies under its umbrella after debt. Now the companies Constellation acquires offer mission-critical software in niche verticals with little competition. That brings continuous and sustained growth in cash flows.
In the first half of 2024, Constellation’s revenue surged 22% and free cash flow per share available to shareholders increased by 34% year-over-year. The company is not a cyclical stock nor seasonal because of the 100-plus verticals it caters to.
The growing fundamentals of Constellation
Constellation stock is affected by the overall market sentiment and liquidity. However, its fundamentals keep growing. Its revenue grew at a compounded annual growth rate (CAGR) of 17.5% and earnings per share (EPS) at 18.5% between 2014 and 2023. During this period, the stock has grown at a CAGR of 30%.
| Year | Revenue (in billions) | Revenue Growth | EPS | EPS Growth |
| 2014 | $1.68 | 39% | $4.87 | 11% |
| 2015 | $1.84 | 10% | $8.36 | 72% |
| 2016 | $2.13 | 15% | $9.76 | 17% |
| 2017 | $2.48 | 17% | $10.47 | 7% |
| 2018 | $3.06 | 23% | $17.90 | 71% |
| 2019 | $3.49 | 14% | $15.73 | -12% |
| 2020 | $3.97 | 14% | $20.59 | 31% |
| 2021 | $5.11 | 29% | $14.65 | -29% |
| 2022 | $6.62 | 30% | $24.18 | 65% |
| 2023 | $8.41 | 27% | $26.67 | 10% |
| H1/2024 | $4.82 | $13.31 | ||
| 10-year CAGR | 17.5% | 18.5% |
If you look at the table carefully, there were periods (2017, 2019, and 2021) of slowdown and negative growth in EPS. This shows that the company is affected by the technology sector sentiment. However, the company used this dip in the tech sector to buy more companies at a discount. Hence, there was accelerated growth in the EPS in the following year.
Why is the stock so pricey?
The price is what you pay, and the value is what you get. Since Constellation’s stock price is the product of the total value of companies under its portfolio, book value and enterprise value are ideal valuation metrics.
Going by the valuations, the stock is trading at 27.7 times its book value, which makes it expensive. However, the book value is the total worth of the accumulated earnings in the reserves. The valuation of the acquired companies has grown over the years, which is not accounted for in the book value. And with the 5G revolution and digitization, more niche software companies will spring up, expanding the addressable market for Constellation.
Investors have priced in the next two to three years of growth into the stock price. As for the $4,000-plus price, the company never did a stock split. It has 21.1 million shares. Thus, the price is high.
Should you buy the stock at $4,368?
You can harness the power of compounding by buying just one share of Constellation and holding it for the long term. Assuming the stock price grows at a CAGR of 20%, your $4,368 could grow to $22,500 in 10 years. You could also consider investing in technology ETFs that have their highest holding in Constellation, but the returns and risk of the ETF could be lower than that of the stock.
