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AGB 2023.2 - Intuit (INTU)
Powering Financial Software for Consumers and SMBs
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Intuit is the leading financial management software provider for consumers and SMBs in the U.S. The company is best known for its TurboTax and QuickBooks product lines. In fiscal year 2022 (ends in July), TurboTax software was used by 47M filers in the US, which is roughly 29% of total tax returns filed. Within the do-it-yourself (DIY) market, TurboTax held 64% market share. QuickBooks is used by almost 7M online and desktop customers to manage the finances of their small to medium sized businesses (SMBs).
TurboTax is the main component of Intuit’s Consumer segment (31% of revenues and 36% of operating income). Customers use TurboTax software to file their taxes each year with the goal of easily achieving the highest refund (or the lowest payment). There are three basic levels of the software - Free, Deluxe and Premium. Usually owning a home, donating to charity, having investment income, and being self employed will push a filers towards the higher priced versions.
The four drivers for TurboTax growth are: (1) the number of total returns, (2) the % of those returns using DIY software, (3) TurboTax share of DIY, and (4) average price per return. Because TurboTax has high share in DIY (63% for TurboTax vs. 17% for H&R Block and 11% for TaxAct), the shift from assisted to DIY has benefited TurboTax over the past decade. TurboTax assisted 47M filers in the company’s fiscal year 2022, which was up from 31M in fiscal year 2012. Share gains have come at the expense of Tax Stores like H&R Block but that only accounts for 4M of the 16M in growth.
The CPA/Pro market has remained relatively consistent from 68M in 2012 to 72M in 2022. TurboTax is aiming to take share from the Tax Stores and CPA/Pros (87M total filers in 2022) through its TurboTax Live offering that was launched towards the end of 2020. Filers can connect to professionals to ask for advice on specific issues or opt for a full-service filing of their return. There are over 2k professionals on the offering.
There are two benefits that Intuit expects to achieve with growth of the TurboTax Live product. First, Intuit will aim to decrease the number of filers that start their return on TurboTax but ultimately file assisted by a professional. The company states that over 10M filers abandon the DIY method (4M attrition for TurboTax) and go to the assisted method every year.
Second, the company will aim to increase the average revenue per return. This is because TurboTax Live comes at a higher price. The industry average DIY revenue per return is $66 but assisted revenues are almost 4x that amount at $244. So even with the higher costs associated with running TurboTax Live from the payment to professionals, gross margins should remain near current levels. Exiting fiscal year 2022, TurboTax live contributed $1B in revenues and grew 30% y/y. This is already a quarter of the revenues of the consumer segment.
QuickBooks (Desktop + Online) make up most of the Small Business and Self-Employed segment (51% of revenues and 51% of operating income). Customers use QuickBooks to manage their businesses’ finances like bookkeeping, payroll, invoicing, etc. QuickBooks was more of a desktop product until 2013 when the company relaunched QuickBooks Online (QBO) with new features and an improved interface. Subsequently, the company launched QuickBooks Self-Employed, QuickBooks Capital (for customers looking for growth capital), QuickBooks Online Advanced (for mid-sized SMBs), QuickBooks Live (help from professionals) to continue Intuit’s growth trajectory.
Most of the growth in QuickBooks has been from QBO over the past 10 years. QBO subscribers increased between 500k-1M annually and there has only been a small amount of attrition from desktop subscribers. Because the QBO offering is a monthly subscription and the increased attach rates for other products, the life time value of a QBO subscriber was 40% higher than desktop in 2014. The attach rates and LTV should be higher now. The company doesn’t force desktop customers to switch, but has nudged new desktop subscribers towards annual subscription payments. As of fiscal year 2022, Intuit had almost 7M QuickBooks customers across online and desktop.
One of the recent growth avenues for QuickBooks is the new version targeting medium-sized businesses. QuickBooks Online Advanced (QBOA) targets SMBs with 10-100 employees. Intuit estimates that 10%-12% of QuickBooks customers reach this size each year, with half of them churning to other software. To reduce that churn, the company launched QBOA, which starts at $2k/year. This price point is much lower than software from Sage or NetSuite that can cost up to $25k/year. When the company launched QBOA in 2018, Intuit identified 180k QuickBooks customers (or 3.5% of total customer base) that fit the profile for QBOA. The company had 75k QBOA customers by 2020 and 118K by 2021, many of which came from outside of the QuickBooks platform.
QuickBooks Live, similar to TurboTax Live, allows customers to ask questions to professionals about their bookkeeping and accounting needs. The company launched QuickBooks Live with 600 professionals and the service costs between $500-$600/month. This offering should help retention rates and increase average revenue per customer (ARPC).
Intuit’s other two segments are Credit Karma (14% of revenues and 8% of operating income) and ProTax (4% and 6%). Credit Karma was Intuit’s largest acquisition at the time at $7.1B in 2020. Credit Karma offers free credit scores and helps customers with personal finance. The platform now has 129M members. Credit Karma is paid by banking institution when members sign up for new credit cards and other banking products. ProTax is Intuit’s financial software for professionals. Lacerte, ProSeries and ProConnect Tax Online all fall into this segment. Lacerte is used by accounting firms and ProSeries is for smaller accounting practices.
Intuit has put out long-term financial revenue growth targets of 8%-12% for the consumer segment and 10%-15% for the SMB segment. And within those two segments, the online portion is expected to grow 30%. The consumer segment will be driven by 0%-2% annual growth in total tax returns, 2%-4% from the shift to DIY (implies a 1%-2% gain in TurboTax share) and 4% growth in revenue per return. Within the SMB segment, the company is expecting growth to come from both number of paying customers and ARPC in the range of 10%-20% annually.
Why is it a good business?
As the leading financial management software provider for consumers and SMBs, Intuit benefits from their customers’ increasing switching costs. With QuickBooks, SMBs that integrate their financials on the software typically don’t want to do that again with another software vendor. Owners and employees build familiarity around the software and generate valuable data that is not easily transferable. QuickBooks also has many integrations with other third party applications.
TurboTax arguably has lower switching costs since customers can switch tax software vendors in any given year, but the customers’ familiarity around using the software and history of prior years’ tax data makes it difficult to switch. Furthermore, the cost of tax return software is much lower than accounting software and tax filing is usually done once per year.
The gross retention rate for QuickBooks is around 80%. This isn’t great compared to enterprise software vendors like Workday, ServiceNow and Veeva Systems, which have retention rates between 95% and 97%. However, considering the failure rate for SMBs is much higher than enterprises (half of small businesses fail within 5 years), Intuit’s retention rate is good. Even Salesforce.com, which has a mix of Enterprise and SMB customers, has retention rates in the low 90%s. QuickBooks integration with third-party applications has resulted in a lift in retention rates. Integration of QBO accounts with applications such as PayPal, Square, Bill.com, or Shopify increases retention rates by ~10%. QuickBooks Live has also increased retention rates by mid single digits.
Retention rates for TurboTax are unclear but are likely in a similar range to QuickBooks, if not a bit higher. The reason is that H&R Block’s retention rates for DIY clients are ~72% and assisted clients are ~75%. Furthermore, almost everyone has to file taxes every year, even during a recession. Similar to QuickBooks Live, TurboTax Live should also increase retention rates. Many of the filers who abandon their return with TurboTax do so because they don’t have confidence that they are doing it correctly on their own.
For Credit Karma, the company benefits from network effects, albeit not that strong. This is because members can elect to join more than one credit monitoring and personal finance platform and can usually find similar offerings for personal finance products on other sites. However, the more members sign up for Credit Karma means that more personal financial data is on the site, which banks and financial institutions will leverage to target financial products credit cards and bank loans. The company can also integrate data from its QuickBooks and TurboTax platforms to increase conversion rates for their financial institution customers. Intuit has over 400k data points for small businesses and 55k for tax filers.
Intuit also benefits from cross selling between products. In 2019, TurboTax was a large conduit for the adoption of QuickBooks Self-Employed software, with over 440k new subscribers coming from TurboTax. TurboTax also has had a big impact on Credit Karma since the acquisition.
40% and 25% of new Credit Karma members came from TurboTax in 2021 and 2022, respectively.
There are $113B of refunds generated through the TurboTax platform each year and $3B of that was driven to the Credit Karma Money product.
Returns on incremental capital?
Over the past 10 years, Intuit has spent half its capital on R&D, 41% on M&A and 9% on capex + capitalized software. When reinvesting in the business, whether it’s a buy or build decision, the company has a 15% ROI hurdle over 5 years for any new project. Capex is mainly related to computers and server equipment to support the different product lines. The capital intensity of this business is low at 0.5%-1% of revenues, even when adding in capitalized software (1%-2%).
R&D spend is the largest consistent use of capital for Intuit, ranging between 16%-19% of revenues. The company continually puts out new versions of its products (TurboTax requires one every year with the changes in the tax code) and new features like QuickBooks Commerce, QuickBooks Capital, etc. M&A is generally infrequent and a small part of capital deployed. However, this changed in 2020 and 2021. In the years leading up to 2020, the largest acquisitions were for Demandforce ($423M in 2012), Check ($360M in 2014) and Tsheets ($340M in 2017).
In 2020, Intuit acquired Credit Karma for $7.2B ($3.4B in cash and $3.8B in stock). Credit Karma generated $1B in revenues in 2019, growing 20% y/y. Assuming margins of 25% (in-between fiscal year 2021 and 2022), the company paid 7x revenues and 29x EBIT. Revenues increased to $1.8B by fiscal year 2022 (+58% y/y) with 29% operating margins.
Credit Karma makes money from financial institutions that pay for new credit accounts through the platform. In fiscal year 2022, the company had 129M members and 42M monthly average users (MAU) coming to the site 5x per month. Credit card and bank loan sign-ups accounted for 75% of revenues while auto + home loans and insurance sign-ups accounted for 25% of revenues. The average revenue per MAU was $43, an increase of 54% y/y.
The Credit Karma acquisition was surprising because it was big, it wasn’t pure software and there was overlap with product lines that Intuit already had. Credit Karma’s spend tracking and expense management tool were similar to Mint and the company’s free credit monitoring solution was similar to Turbo. Combined, Mint and Turbo had roughly 37M users with 4M MAUs in 2019. Admittedly, Credit Karma was a larger platform that had better monthly and daily engagement from its members. Credit Karma also had a free tax offering targeting the low-end of the market. In 2018, Credit Karma had 1.5M returns filed on their platform and roughly 2.3M by 2019, commanding almost 4% of the DIY market that year.
Then in 2021, Intuit followed that up with a larger acquisition of Mailchimp for $12B ($5.7B in cash and 6.3B in stock). Mailchimp generated revenues of $800M in 2020, implying a multiple of 15x. Revenues were growing 20% y/y and over 95% of revenues are recurring, with more than 50% coming from international markets. The company has 13M users, 2.4M MAUs, and 800k paying customers.
While the company paid a hefty price, Intuit thought Mailchimp would jump start marketing and growth for many of the small business customers using QuickBooks. The idea was that Intuit could enable SMBs to combine their customers’ data from Mailchimp and purchase data from QuickBooks. The good thing about Mailchimp is that its ARPC is much higher than QBO’s ($1,237 vs $604) and converting new paying customers for Mailchimp from the large base of QBO customers would move the needle quickly.
We estimate that Intuit generated returns on incremental capital between 20%-40% over the past 5 years. The Credit Karma acquisition in 2020 did result in an increase in the reinvestment rate, but returns remained high given the rapid growth in that business. However, looking ahead, incremental returns will likely be lower than the average due to the very expensive Mailchimp acquisition and the expected slowdown in Credit Karma for fiscal year 2023. Even though it hasn’t been that long, Intuit likely overpaid for Mailchimp, given its historical growth rates and large size, and it will likely be difficult for Intuit to show returns over its 15% hurdle rate.
Three of Intuit’s four segments have large addressable markets and is growing at least double digits % annually. Intuit estimates that the Consumer segment has a TAM of $37B (10.6% penetration using fiscal 2022 revenues), SMB segment $188B (3.4% penetration), Credit Karma $85B (2.1% penetration) and ProTax $2B (27.3% penetration).
TurboTax has a $4.5B TAM in DIY, $21.4B in assisted and $9.5B in business tax preparation. Because the average assisted return is almost 4x the price of DIY ($66 vs. $244), a large portion of Intuit’s growth opportunity with TurboTax is taking share in the assisted market. There are 87M consumers that use assisted tax preparation services every year and 10M of those customers churn to another assisted service. With TurboTax Live, ARPC has increased from $62 in 2019 to $79 in 2022 (this includes the Free Edition).
QuickBooks has a TAM of $188B, which can be broken out to $32B for Mailchimp and QuickBooks Commerce, $61B for payments, $21B for loans and other forms of capital, $19B for payroll and benefits, $28B for QuickBooks Live, and $27B for QBO and QBO Advanced. In terms of customers, there are 7M on the QuickBooks platform and another 800k customers on Mailchimp. Intuit estimates that there are 75M potential customers, implying a penetration rate of 10%.
Credit Karma’s TAM is $85B, which is broken down in $17B for credit cards and personal loans, $36B for new verticals like auto loans, home loans, student loans and auto insurance, and $32B for Credit Karma Money and savings + checking accounts. The company currently has 7% share of credit card and personal loan sign-ups and less than 1% share of new vertical sing-ups.
While TurboTax and QuickBooks currently are the leading software products for the consumer and SMB segments and will most likely be for years to come, it’s unlikely that Credit Karma ends up being as dominant in its category. That’s because unlike software where there are increasing switching costs for customers, it’s fairly easy for customers to switch online information portals for personal finance needs if a better one comes around. The company requires constant marketing to re-win the members’ attention and increase MAUs.
The company has stated that Intuit focuses on LTV/CAC for QuickBooks and one-year payback periods for TurboTax to evaluate return on marketing spend. We’ll have to see whether Credit Karma’s return on marketing spend is comparable to these two products. Luckily, Intuit can funnel a lot of the TurboTax customers over to Credit Karma (and vice versa), which should make the returns on marketing spend look better for now.
With a reinvestment rate between 35%-50% and a return on incremental capital between 20%-40%, we estimate that Intuit has increased its intrinsic value between 10%-14% annually over the past 5 years. Intuit’s reinvestment rate increased in 2021 and 2022 due to the two acquisition. And because the high multiples paid for these two acquisitions, the returns on capital may be a bit muted going forward.
What else is important?
IRS Free File Program
The IRS has tools to allow low-to-middle income earners (less than $73k AGI in 2022) to file their tax returns for free. And the IRS has partnerships with many tax preparation software companies under the Free File Alliance to also provide free tax returns (with varying requirements). The Free File program was started in 2002. Intuit had been a long standing member of the Free File Alliance prior to 2021.
TurboTax had been a strong contributor to the alliance, helping 100M customers file their returns for free over the 8 years prior to 2021. TurboTax offers their Free Edition for customers to use as well as route users over to the IRS website. However, there were certain customers that claimed that Intuit mislead them into purchasing a version of TurboTax that costs money. There was an investigation by the New York State Attorney General into these misleading marketing practices by TurboTax. Intuit settled with the government and agreed to pay $141M in 2022, or $30 per filing for the 4.4M filers who used the TurboTax Free Edition from 2016-2018. You can read the time line in this Forbes article from 2022.
Intuit exited the Free File Alliance in 2021. H&R Block also exited the alliance. The company said that there were certain restrictions around customer data placed on the members, so exiting the alliance would allow more marketing and cross promotion using their customers’ data. This is even more important now after the Credit Karma acquisition, which generates revenues based on selling data and leads to financial partners.
What about a Recession?
While Intuit’s businesses have exposure to consumers and SMBs, the company has performed well during economic slowdowns in the past. Looking back at 2008-2009, the company still grew revenues, albeit at a lower rate than prior years. The company continued to take market share and add on other services to QuickBooks that led to an increase in ARPC.
For TurboTax, the number of tax returns filed is relatively consistent each year. Even when the unemployment rate increased from 5.8% in 2008 to 9.3% in 2009, the number of returns filed with the IRS remained relatively flat from 142M in 2009 to 140M in 2010. For the small business segment, the company experienced growth of 4.4% from fiscal year 2008 to 2009, which mostly came from additional connected services.
Here are two long-term growth avenues for Intuit. First is international expansion. For fiscal year 2022, international represented 8% of revenues, but this was lower in the 4%-5% range prior to the Mailchimp acquisition. TurboTax would be difficult to grow successfully internationally, due to the differences in tax law and tax payment methodology in each country. TurboTax does have a presence in Canada, selling 3.5M units in 2022.
QuickBooks is more “transportable” internationally given that businesses typically have similar accounting needs across the world. With the integration of Mailchimp and further reinvestment, international growth could be a long-term growth driver. Currently, the company is seeing success in the U.K. (#1 market share and half of international QBO subscribers), Australia, France, Brazil and India.
The other avenue is QuickBooks Commerce and Payments. With the acquisition of TradeGecko in 2020, Intuit added inventory and order management capabilities to its suite of offerings. The company continued to build other capabilities like sales channel integration, fulfillment, omni-channel inventory management. And with these capabilities customers can complete transactions on the QuickBooks platform directly. Payment volumes that flow through the platform reached $90B in 2021. QuickBooks customers that use payments are 3x more engaged on the platform.
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