Intuit: Don’t Ignore The Non-GAAP Elephant In The Room (NASDAQ:INTU)

Intuit (NASDAQ:INTU) is qualitatively one of the best businesses I’ve analyzed. However, the adjustments the company makes to its non-GAAP metrics might be the most significant I’ve ever seen for a company of its size and stature.

I believe many investors are overlooking how deeply overvalued the company is when non-GAAP adjustments are removed.

How deep? Let’s take a look.

Introduction

Intuit (INTU) operates one of the stickiest businesses in the tech industry, providing software solutions that allow small businesses to operate with the capacity of large enterprises, through a product suite that answers five core business needs: Getting paid; Getting customers; Getting capital; Paying workers and; Staying compliant and organized.

Furthermore, the company provides the best-in-class solution for tax returns, a service that a majority of Americans use each year.

With that in mind, in this article, I’ll focus on one thing, and that is – Intuit’s non-GAAP adjustments, which have led big investors like Fundsmith, led by Terry Smith, to publicly criticize the company’s reporting.

Non-GAAP Acrobatics

In general, generally accepted accounting principles, or GAAP, are there for a reason. They provide a unified framework through which investors can assess the attractiveness of companies compared to one another.

The problem with GAAP is that sometimes they can portray a misleading picture about a company’s operation. For instance, if Meta (META) laid off thousands of workers and incurred non-recurring severance charges, GAAP operating income would show a low operating margin that’s far from the true underlying strength of the company.

Over time, companies introduced non-GAAP measures, in order to answer outliers like one-time expenses such as acquisition-related costs, asset write-offs, restructuring, the list goes on.

Some companies elect to report those one-offs as is, leaving the work for investors to make the proper adjustments themselves, whereas others choose to provide adjusted metrics, like adjusted EBITDA, adjusted EPS, etc.

With the trend of non-GAAP measures becoming regularly reported metrics, some companies push the acceptable boundaries and report adjusted numbers that risk investors missing the complete picture, as they exclude expenses that are core day-to-day costs for their company.

Among such items, by far the most common one is, of course, stock-based compensation.

Supposedly, providing profitability metrics without deducting SBC, or adding it back, became common among early-stage companies that are yet to produce cash flows. Such companies want to differentiate between cash expenses and non-cash expenses, so investors can easily assess their remaining runway.

However, in my view, when such adjustments are adopted by companies that already produce cash flows, especially companies with a market cap of more than $150 billion, placing value in those adjustments seems pointless at best, but concerningly, investors may not glean the complete picture.

Intuit’s Non-GAAP Reporting

If you go to Intuit’s page on Seeking Alpha, you’ll see that the company is trading at a 39x forward P/E, and a 41x TTM P/E, which are arguably fair in today’s market, considering the company’s business and mid-teens-growth outlook.

There’s only one problem, those multiples are based on the company’s adjusted metrics.

A first look at the company’s GAAP to Non-GAAP reconciliation is immediately intimidating because we can see that Non-GAAP net income, for FY23, was almost twice as high as the GAAP total.

The adjustments mainly include stock-based compensation and amortization of acquired assets and technology. These are not one-offs, these are regular, ongoing expenses of the company.

As we can see, stock-based compensation increased massively over the last few years, due in part to the acquisitions of Credit Karma and Mailchimp. In the first quarter of 2024, share-based comp. was $495 million, reflecting a run rate of nearly $2 billion, and historically stock-based grew incrementally from quarter to quarter. As a percentage of sales, SBC increased to 16.6% from 16.2% in the prior year period.

Despite the higher run rate, management guided $1.9 billion in SBC expenses for the year, so I’m going to take their number as is. Based on their guidance, share-based compensation is responsible for over 70% of the difference between the GAAP EPS target, which stands at $9.52/share at the mid-point, and their non-GAAP guide, which amounts to $16.32/share.

It’s worth noting that during their recent investor day, Intuit’s CFO said they are targeting a 1%-2% decline in their share-based compensation as a percentage of sales over the next few years. Your guess is as good as mine as to what does few years really mean, but there are no significant signs of a decline yet.

Another common adjustment is amortization, which is a more arguable subject. On the one hand, amortization is mainly a result of acquisitions, and should gradually decline over the upcoming years. Furthermore, the main reason for this account is for tax benefit purposes.

Unlike SBC, we’ve already seen a decline in the first quarter for amortization as a percentage of sales. In my view, this is a legitimate adjustment, although investors should take in mind that there are plenty of companies that incur such charges and do not adjust for them in the net income numbers, so make sure you take that into account.

Comparable GAAP Basis

As you can understand, I find Intuit’s non-GAAP EPS almost meaningless. The company is currently trading at a 67x forward P/E based on its GAAP EPS guidance, or a 57.4x P/E adjusted for amortization. For 2025, we’re looking at a 58.3x GAAP P/E, and a 50x multiple adjusted for amortization.

For context, Intuit is trading at a valuation that’s almost twice as high as Microsoft (MSFT), which is at 35x and 31x, for 2024 and 2025 respectively, even though Microsoft is expected to grow EPS slightly faster than Intuit. While the majority of Microsoft’s customers are larger enterprises, both companies provide exposure to small and medium businesses, and benefit from an improving business environment.

Intuit is valued at a 2.5x premium over human-capital solutions provider Automatic Data Processing (ADP), which trades at a P/E of 26x and 24x for 2024 and 2025, respectively. A caveat is that ADP is projected to grow 4% slower.

Intuit is also significantly above Adobe (ADBE), which like Microsoft isn’t a perfect comparison, but they provide customer relations and marketing solutions that compete directly with Intuit. Adobe is projected to grow largely in line with Intuit, and its business is almost entirely subscription-based. However, it trades at a 35% discount.

Another example would be Fair Isaac (FICO), whose software segment overlaps with Intuit’s Credit Karma and some of its SME business solutions. FICO is projected to outgrow Intuit significantly over the next five years, yet it trades at a 5% discount based on 2024 valuations.

Lastly, we can look at H&R Block (HRB), another tax solutions provider, which trades at a 12x P/E over 2024 earnings. While HRB is expected to grow slower (10% compared to Intuit’s 14%), Intuit’s multiple is more than 5.5x as high.

I can go on, but you get the point. I think you’ll have a tough time finding a comparable company that’s trading at a higher valuation with a similar expected growth rate.

Based solely on that, I believe there’s a very small chance that Intuit will continue to deliver market-beating returns from this point, and I encourage investors to make sure they understand the company’s non-GAAP reporting before they make their investment decision.

I have several high P/E names in my portfolio, and I’m not one of those who will automatically claim a high multiple means overvaluation, but in Intuit’s case, I definitely think it does.

Conclusion

Intuit owns an amazing business, providing a lot of value for small businesses and individuals. The company’s services are extremely sticky, due to the fact they provide crucial solutions which come with high switching costs.

I believe that the qualitative aspects of the company are immaculate, and expect it to continue to grow earnings at a double-digit pace for the foreseeable future.

However, on a comparable basis, Intuit is extremely overvalued relative to companies that own the world’s strongest businesses, which are on par with Intuit qualitatively, while growing at a faster pace.

With that in mind, it depends on each investor’s strategy. Personally, I won’t sell a stock as long as fundamentals remain intact unless there’s an attractive alternative, even if the valuation is somewhat extreme.

However, due to the fact I find Intuit’s overvaluation more than extreme, I rate the stock a Sell.