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2 Top Software-As-a-Service Stocks to Consider

Daniel Sparks, The Motley Fool

Many software-as-a-service (SaaS) stocks have risen to command pricey valuations in this bull market. But some of these companies, which provide services to customers through online software, may deserve to trade at their seemingly lofty premiums. salesforce.com (NYSE: CRM) and Intuit (NASDAQ: INTU), for instance, are both market leaders in their respective markets and are delivering consistently strong growth.

Sure, both Salesforce and Intuit look expensive, trading at 8.9 and 8.5 sales, respectively. But a closer look at each stock shows why investors may want to consider adding Salesforce and Intuit to their portfolios, even after their stocks' 52% and 43% respective increases in the past 12 months.

A diagram of three laptops connected to a blue cloud held up by a hand.

Image source: Getty Images.

salesforce.com

Salesforce is one of the world's largest pure-play SaaS companies and is a prime example of what makes SaaS businesses so attractive. With its services platform built entirely in the cloud, Salesforce is able to offer leading customer relationship management (CRM) solutions for businesses like small start-ups to the some of the largest organizations in the world, including clients such as T-MobileU.S. Bank, Tesla, Activision Blizzard, and even Intuit. 

Salesforce's revenue has soared recently, rising about 25% year over year in its fiscal 2018, which ended on Jan. 31, 2017. This has been propelled primarily by a 25% increase in Salesforce's subscription and support revenue during this period. 

Highlighting the scalability of Salesforce's mature SaaS business model, operating cash flow growth has outpaced revenue growth. Fiscal 2018 operating cash flow was up 27%, even though revenue climbed a lesser 25%. Salesforce's rise in operating cash flow was even more outsized in the company's most recently reported quarter; Fourth-quarter operating cash flow was up 49% year over year while revenue climbed 24%.

Intuit

Intuit doesn't boast the pure-play SaaS business model that Salesforce does, but Intuit has been rapidly transitioning its business to a SaaS model. Currently, about a third of Intuit's revenue is generated from sales of non-SaaS products, such as QuickBooks and TurboTax desktop software, while the remaining revenue is primarily derived from online software services, such as QuickBooks Online (QBO) and TurboTax Online.

A small business owner using QuickBooks Online on a laptop

QuickBooks Online. Image source: Intuit.

Highlighting how QuickBooks is transitioning its software online, sales from Intuit's "services and other" segment, where Intuit accounts for revenue from online services, represented 69% of total revenue in the six months ending Jan. 31, 2018. This is up from 67% of revenue in the year-ago period.

The fastest growing SaaS portion of Intuit's business that investors should be watching is Intuit's QBO business. QBO subscribers in Intuit's most recent quarter were up 51% year over year, hitting 2.8 million. This was helped by a 39% increase in Intuit's small business online ecosystem revenue -- an acceleration from 35% growth in the first quarter of 2017. 

Aided by growth in QBO subscribers, Intuit's total revenue in its most recent quarter was up 15% year over year.

Though Intuit still has some work to do to transition more of its business to cloud-based software and services, management is already expecting outsized non-GAAP operating income and non-GAAP earnings-per-share growth. Intuit guided for 9% to 12% and 20% to 22% year-over-year growth in these two metrics, respectively, in fiscal 2018, which is already halfway over). This compares to guidance for 9% to 11% revenue growth during the same period.

A long-term bet

Of course, providing quality SaaS offerings doesn't guarantee fatter margins or even a scalable business model. Building and maintaining competitive SaaS offerings requires significant investment. But if Salesforce and Intuit continue to execute and innovate with the same discipline they have in recent years, both of these companies look poised to watch their profits grow faster than revenue over the long haul -- a trend that would ultimately help both companies live up to their premium valuations.

More From The Motley Fool

Daniel Sparks owns shares of Tesla. The Motley Fool owns shares of and recommends Activision Blizzard, Intuit, and Tesla. The Motley Fool recommends Salesforce.com and T-Mobile US. The Motley Fool has a disclosure policy.

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