The pullback in this high-quality edtech stock could be opportunity for investors

Published Fri, Feb 24 20235:42 AM ESTUpdated Fri, Feb 24 20231:27 PM EST

Christina Cheddar Berk @in/christina-cheddar-berk-b864404/

After outperforming other edtech stocks last year, shares of industry leader PowerSchool are off to a weak start in 2023, and several analysts see that as an opportunity. PowerSchool shares closed down about 2.1% in trading Thursday after the company reported mixed fourth-quarter results. However, analysts have largely reiterated their ratings on the stock and lifted their price targets. According to FactSet, most analysts rate the stock buy or overweight, and have an average price target of $26.75, which implies roughly 16% upside from Thursday's close. "PWSC has remained steadfast in its ability to grow revenue organically in the low double-digit range and to drive annual margin improvements. With a sizable install base to which it can cross-sell its large product portfolio and minimal churn given the stickiness of its products, we see this dynamic continuing for multiple years to come," wrote Brett Knoblauch, an analyst at Cantor Fitzgerald, in a research note. In the fourth quarter, PowerSchool's net loss narrowed to $3.2 million, or 2 cents a share, from a loss of $15.9 million, or 8 cents a share, a year ago. On a non-GAAP basis, the company earned 27 cents a share, topping expectations of 20 cents per share. Revenue rose 10% to $161.1 million, but was slightly below the $162.6 million that analysts surveyed by Refinitiv expected. Knoblauch raised his price target to $27 from $21, saying the stock's underperformance so far this year is an opportunity. Last year, PowerSchool's stock outperformed its edtech peers by a wide margin. Shares gained 40% in 2022, but have lagged both the company's peers and the market year to date, falling nearly 1%. PWSC 6M mountain PowerSchool outperformed its edtech in 2022, but the tables have turned so far this year. That seems surprising given widespread fears about inflation and a possible economic slowdown. "The beauty of our industry is that it's very resilient and what we sell is mission critical," said CEO Hardeep Gulati, in an interview with CNBC on Thursday. Demand for PowerSchool's products are largely driven by the growth of school budgets, which are recession-resilient. Covid funding could boost spending According to Knoblauch, about 6% of gross domestic product was spent on education in 2019. In a research note on the sector in January, he said the group's underperformance shows that investors have lost sight of the importance of that fact. At that time, he preferred Udemy and Coursera shares to PowerSchool. Providing further support in the U.S. are billions in funding that was allocated to school districts to close the gap on the learning loss that occurred during the Covid pandemic. Those funds must be allocated or spent by 2024, or they will be lost. According to Gulati, more than 55% of the ESSER funding still remains to be spent, so that could provide an extra cushion for school districts and states to be able to manage some of their initiatives. One of PowerSchool's strategies has been to sell additional products to districts where it already has a foothold. "Bears have historically highlighted PWSC's saturation against the district level given they already touch 80%+ of the K-12 students in the U.S. and Canada," Jefferies analyst Brent Thill said in a research note. "However, continued strength in [nonrecurring revenue] signals that PWSC can continue cross-selling its existing customer base to drive 10%+ growth." According to Gulati, most districts are only using two of the company's 20 products. He expects cross-selling is a $3 billion opportunity for the company. "We have a lot of potential in North America to continue to grow double digit," he said. "International is actually even a bigger opportunity." The international opportunity Thill said it's early days for PowerSchool's international expansion, and it's one of the reasons he's positive on the stock in the long term. However, the stock's valuation is "getting full" at the moment, he said. In conjunction with the earnings report, the company announced a partnership with OneConnect, which will help PowerSchool expand in Africa. PowerSchool's partners have a footprints in India, the Philippines and Uruguay. Further, PowerSchool is opening an office in Dubai to assist its growth in the Middle East. According to Gulati, in some parts of the world Covid was even more disruptive to learning than it was in the U.S., and countries are looking to make up the ground they've lost. He sees international becoming a $80 million to $100 million business over the next three to five years. "We already do business in 90 countries, so our products are already localized and proven," he said. "We are now scaling up that growth." It's the potential for these two opportunities that Credit Suisse analyst Rich Hilliker cited when his firm named PowerSchool one of its top picks earlier this month. In the wake of earnings, Hilliker said, "Steady execution, improving demand velocity, greater multi-product adoption, and diligent cost management suggest PowerSchool's platform is resonating and the flywheel is spinning. We're particularly optimistic regarding the company's persona-based cloud bundles and international opportunity. Results and guidance suggest durable, profitable growth ahead." More M & A ahead Cantor Fitzgerald's Knoblauch expects PowerSchool will begin to allocate more cash to mergers and acquisitions now that it has reached its long-term net leverage target. "Acquisitions definitely gives us further opportunity to grow," Gulati said. "And while we do have a pretty comprehensive, complete platform, there's always acquisition opportunities to further our technology footprint, further expanding to additional adjacencies as well as international expansion. So we definitely have a lot of prospects and opportunity there and will continue to be acquisitive." In the past, PowerSchool has targeted areas where it has seen the most market need. "We saw a lot of opportunity around behavior management as students were struggling post-Covid with social-emotional aspects," he said, citing its Kickboard acquisition as an example of how it addressed that need. He said PowerSchool's acquisition of Kinvolved addressed attendance interventions, as another example. "We're looking at where the key market needs for K-12 districts are to ensure that we can address those things quickly," Gulati said. Correction: Powerschool CEO Hardeep Gulati said he expects international to become an $80 million to $100 million business over the next three to five years. A previous version of this story misstated the amount he is forecasting.