Clearwater Analytics Holdings, Inc.

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

Clearwater Analytics is a software as a service (SaaS) platform providing investment accounting and reporting solutions for institutional investors.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

Clearwater Analytics provides a cloud-based platform for automated investment accounting and reporting. Their services are designed to help institutional investors including insurance companies, asset managers, corporations, and government entities with data aggregation, reconciliation, and reporting across various assets classes and geographies.

Revenue Distribution

  • The company primarily generates revenue through subscription fees for its SaaS platform.
  • Revenue is classified as recurring revenue and is generally derived from fees based on the number of accounts on the platform, the number of services purchased and AUM.
  • Geographically, their revenue is primarily generated from North America and Europe, with a growing presence in other regions.

The investment analytics market is undergoing a significant transformation, largely driven by the increasing complexity of investments, tighter regulations, and the need for improved transparency and operational efficiency.

  • The rising complexity of investment portfolios increases the demand for solutions that can manage multiple asset classes.
  • Regulatory requirements on financial institutions is also driving adoption of third-party software.
  • Investors increasingly value real-time access and data analytics capabilities for better decision making.

Competitive Landscape

  • The competitive landscape is highly fragmented, with a range of players offering different niche or specialty products.
  • Direct competitors include legacy software providers, internal IT development, and other, often smaller, cloud based solutions.
  • Large financial institutions also have a few large proprietary software systems.
  • There is intense price competition between some of the smaller players.
  • However, most vendors do not have a product that is a direct replacement for Clearwater Analytics’ platform.

What Makes Clearwater Analytics Different

  • Unified Platform: Unlike many point solutions that offer only specific capabilities, Clearwater provides a comprehensive, unified platform for multiple asset classes and geographies, reducing the need for managing multiple systems.
  • SaaS Delivery Model: The cloud-based SaaS delivery model of Clearwater Analytics has several benefits. The initial deployment for customers is quick, it is scalable and easy to add functionality and additional clients, and the pricing is based on subscription, which provides good recurring revenue predictability for Clearwater and is an affordable model for the users.
  • Focus on Data Quality: Clearwater places significant emphasis on data accuracy and reliability, which is essential for institutional investors dealing with huge amounts of financial data.
  • Strong Performance: It has consistently delivered impressive performance, showing that its model is working.
  • Proprietary Technology: Its multi-tenant cloud technology is highly efficient, and its data model is built in-house, allowing a degree of flexibility and specialization.

Financials in Depth

  • Clearwater Analytics has demonstrated strong growth in revenues and recurring revenue streams.
  • However, the company’s profit margins are quite low.
  • The company is still unprofitable (net losses of $15M in FY22, and $33M in FY23) and the free cash flow remains negative at -90M in FY22, and -57M in FY23. Although the operational performance has been impressive, there are signs of financial difficulties and the company is burning cash.
  • However, after accounting for share-based compensation (which is treated as a non-cash expense), the free cash flow is actually positive (71M in 2022, and $26M in 2023).
  • The company’s cash reserves have come down over the years. The cash and cash equivalents are at $97M as of September 2023, which is not a lot given that they have negative free cash flows on a GAAP basis.
  • Debt levels are relatively low compared to the market capitalization.
  • Overall, the company has been growing revenue, but needs to show increased profitability and cash flow to be considered a successful long-term investment.

Management has highlighted their belief in operating leverage, where future growth will come from leveraging their technology platform and existing costs.

A recent concern has been management’s ability to control its operating costs. Although revenue has been rising, it has not been converting into higher levels of profits. The cost of revenues, sales, and marketing expenses, as well as research and development costs have all risen.

Moat Rating: 3/5

  • Narrow Moat: Clearwater Analytics has a defensible moat, primarily based on high switching costs and intangible assets. Customers become deeply integrated into the platform, making it expensive and time-consuming to change vendors. Also, the proprietary nature of the platform, its design, and the large amounts of data it contains are intangible assets.
  • However, there are no other meaningful barriers to entry and it is not unlikely that similar companies will arise in the future. Even though it is very difficult for customers to change, the business model is not entirely unique, so they can be replicated. The high competition can negatively affect earnings margins. There are also no network effects to take advantage of to generate a “winner-takes-all” scenario.

Understandability Rating: 3/5

  • While Clearwater Analytics’ core business is relatively straightforward (providing investment accounting software), the intricacies of its financial models, and the details regarding the various asset classes and reports do add some complexity. This can make it difficult to fully understand the company without significant financial knowledge.
  • However, its business model is rather straight forward which makes it easier to understand.

Balance Sheet Health: 4/5

  • Debt levels are relatively low.
  • Current ratio is above 1, showing that it has enough current assets to cover current liabilities.
  • However, the company’s negative free cash flow (on GAAP basis) is a concern, and it might need additional funding going forward.
  • Current cash levels are not very high.

Key Risks

  • Technological Disruption: Newer, more innovative accounting solutions, especially those based on AI, may potentially threaten its competitive advantage.
  • Increased Competition: The fragmented marketplace may attract smaller players that offer similar products at lower prices.
  • Integration Risk: The platform needs to be compatible with various financial systems, including their own internal system, and any issue in the integration can be disastrous.
  • Customer Concentration Risk: A loss of a major client can lead to an outsized drop in revenue.
  • Management Execution: Since operating margins are low, if the management team is unable to improve upon profitability it could significantly affect the value of the company.

Business Resilience

  • Clearwater Analytics has long-term contracts with customers which provide predictable revenue.
  • They service highly regulated industries, giving their services a degree of necessity.
  • Strong relationships with clients and the high switching costs create customer stickiness.
  • Their business is primarily dependent on recurring revenues.
  • The industry it operates in is essential but not a high-growth market, which reduces the speed of potential competitors growing to a big size.

The business is interesting from an investing perspective, however, a closer watch should be maintained on their financials as they need to improve on profitability and free cash flows.