Ask the analyst: Can Fineos emulate WiseTech’s niche success?

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If you have a question about an ASX company or industry in our coverage, please send it to joseph.taylor@morningstar.com. It may appear in a future edition.

Today’s topic

In September 2024, I wrote an article highlighting that an ASX-listed share was the world’s cheapest Wide Moat stock relative to Morningstar’s Fair Value estimate. That stock was Fineos (ASX: FCL).

Since then, Fineos shares have risen 60% but still rank among our ten cheapest Wide Moat stocks worldwide. After a volatile few months for the shares and a big Fair Value upgrade, I thought it was time to check in with our analyst Shaun Ler.

How does Fineos make money?

Fineos develops and sells software for insurers in the life, accident and health (LA&H) segment of the insurance industry. After initially selling old-school software run from a client’s own premises, it joined the industry-wide shift to cloud-based offerings.

Fineos gets its revenue from two sources: software fees and services related to setting up and implementing software upgrades for clients. Fineos made 133 million euros in revenue in 2024, compared to 125 million in 2023 and roughly 88 million in 2020.

In addition to this rather moderate growth, the company has not been massively profitable in the past. It has invested heavily in getting its product offering right for its largest clients in the hope of eventually selling the same tech to other insurers over time.

A lot of revenue has traditionally come from less profitable service activities. As every additional piece of work done and billed for here requires more labour to fund it, incremental revenue here is less profitable than in software and scales less attractively.

As we’ll see later, though, this is expected to change quite significantly going forward.

A long, slow grind

A vital thing to understand about Fineos is how resistant its target market – life insurers – have been to embrace technology. This, Shaun says, is down to the business disruption risks that come with changing mission critical software.

For the most part, life insurers still rely on decades-old legacy systems to run their business. These were often cobbled together in-house and are almost certainly less efficient and effective than modern-day solutions like those sold by Fineos.

In other words, the opportunity to bring life insurers into the 21st century is still at an early stage. Chipping away at it has required a lot of patience from Fineos shareholders, something that is reflected by its volatile share price over time.

Figure 1: Fineos share chart from June 1 2023 to June 6 2025. Source: Morningstar

Shaun’s assessment of Fineos has been a lot more consistent – he held his $3.10 per share Fair Value call in place for 18 months until May, at which point he hiked it by 25% because of what he saw in the company’s Q1 investor update.

My first question for Shaun, then, was what he liked so much about that update.

Two key drivers progressing nicely

Shaun’s long-term view on Fineos essentially boils down to two things - its potential to lead the life insurance software niche and a gradual but ultimately significant improvement in its cash flow profile.

The company’s latest update supported both. Let’s start with the potential for improved profitability and cash flow. As Shaun sees it, the main cog here could be a tapering down in product development outlays.

Outlays related to research and development, sales and marketing and admin costs have all fallen as a percentage of revenue – with management targeting further improvements in operating margins.

“This suggests that Fineos has completed most of its product development work” Shaun says, “and that these solutions can now be rolled out to other insurance clients too.” This could open the door to more scalable growth that outpaces costs instead of creating more of them.

As these offerings scale with new and existing clients, Fineos should see a greater portion of revenue coming from higher margin software sales.

Figure 2: Fineos actual (2020-2024) and forecast (2025-2030) mix of software and services revenue. Source: Morningstar

This shift towards more software revenue and higher margins has been gathering pace for some time. Gross margins, for example, rose from 65% to 75% between 2022 and 2024 as software revenue climbed from 44% to 53% of total sales.

Looking ahead, Shaun expects this ratio to increasingly favour software revenue, from near parity today to two-thirds software revenue by 2030. And as elements of operating leverage kick in, he expects a meaningful uplift in operating margins.

Who is the competition, and why can Fineos win?

Shaun says there are fewer competitors in LA&H insurance software than in many business software verticals. “Because of this, a leading player is more likely to gain greater market share compared with the more fragmented property and casualty insurance (P&C) software market” he says.

As for why there are fewer competitors, Shaun puts it down to the ultra-cautious nature of buyers in this niche. This means that companies face a long wait to get a return on investments they make in product development, marketing and sales.

He thinks this is evidenced by Guidewire – which has been hugely successful in the P&C space – deciding to give life insurance a wide berth. Instead, major competitors include specialists like Majesco, Sapiens and Vitech, plus generalists like Oracle and DXC.

Shaun thinks Fineos can compete favourably with these players because of its focus on LA&H insurers as opposed to various niches of the insurance industry at once. This, Shaun says, helps Fineos better serve their unique and complex needs.

Fineos also appears to have an edge over new upstarts. It has already put in years of effort to win successful case studies from major life insurers, and would-be buyers usually require several of them.

With all of this in mind, Shaun thinks it would make far more sense for such an entrant to acquire Fineos rather than starting from scratch.

A better and more profitable route to market?

One aspect of Shaun’s research that interested me was his optimism for Fineos’ partnerships with global consulting firms. This sees firms like EY and PWC recommend and implement Fineos solutions as part of their client projects in the LA&H industry.

Shaun sees several positives here. For one, it allows Fineos to leverage the strong relationships these consultants have with big players in its target market and provides Fineos with further endorsement for the trusted nature of their solutions.

Crucially, it also lets Fineos focus more on what it does best – developing the best products it can for LA&H insurers – while keeping business development and marketing costs low as a percentage of revenue.

Consultants taking over aspects of implementation also adds further fuel to the skew away from service revenues to more profitable software sales.

What could Fineos look like in five or ten years?

Shaun expects a long grind rather than the fabled “hockey-stick” style of growth.

His forecast bakes in 6% growth in software revenue in 2025 and 10% in a typical year beyond that as its product development efforts pay off and its increasing body of proof for the software’s efficacy wears down potential buyers.

Taken with flat service revenue, Shaun expects total sales to grow by roughly 6% per year on average. He also expects steadily higher profit margins as operating leverage kicks in and software sales increasingly dominate overall revenue.

We’ve also mentioned Shaun’s prediction that Fineos’ capital intensity – primarily the amounts invested in product development relative to sales – should fall while revenue and profits rise.

If he is correct, the result could be a gradual but eventually significant increase in free cash flow generation.

In 2024, Fineos generated 20.6 million euros in operating cash flow but invested 28.9 million into the business for free cash flow of minus 8 million. Shaun thinks free cash can turn positive in 2025, surpass 20 million by 2030 and top 50 million by 2034.

Given the long runway ahead and the slow progress that is to be expected, Shaun is also partial to taking a twenty-year view on Fineos. His prediction? By that point, he thinks it could be serving 25% of its total addressable market in the LA&H space.

The safest option?

Becoming something that resembles the ‘industry default’ could be immensely valuable in an industry that is so cautious when it comes to embracing technology.

Our technology analyst Roy van Keulen has previously talked about WiseTech (ASX: WTC) and its Cargowise solution being the “IBM” of freight forwarding software in this regard – it has become so well-known that nobody is likely to be fired for choosing it.

Could Fineos become the IBM (or indeed the WiseTech) of life insurance software? Shaun thinks it has a good chance of doing so. But if history is a guide, the road there could be slow and the share price volatile.

Previously on Ask the analyst: