8x8, Inc. — FY2019 Form 10-K
Reporting period: Fiscal year ended March 31, 2019. The filing is an annual report, not a standalone FY2018 fourth-quarter report; it also reports the quarter ended March 31, 2019.
Business context
8x8 provides cloud-based business communications software, including voice, video, messaging, collaboration and contact-center services. Its X Series platform launched in July 2018 and combines these services. The company reported more than 1 million business users across over 150 countries and increasingly focused on mid-market and enterprise customers.
Financial performance
| Metric | FY2019 | FY2018 |
|---|---|---|
| Total revenue | $352.6 million | $296.5 million |
| Service revenue | $334.4 million (+19.3%) | $280.4 million |
| Product revenue | $18.1 million (+12.9%) | $16.1 million |
| Operating loss | $(91.0) million | $(41.9) million |
| Net loss | $(88.7) million | $(104.5) million |
| Net loss per diluted share | $(0.94) | $(1.14) |
| Cash used in operating activities | $(14.9) million | $22.0 million provided |
- Service revenue was 94.9% of total revenue. Mid-market and enterprise customers generated 62% of service revenue, up 30% year over year. Average monthly service revenue per customer increased to $498 from $450; customer count rose from approximately 49,000 to 52,000.
- Service gross margin declined to 67.9% from 69.2%. Product costs exceeded product revenue in both years. Overall FY2019 gross profit was approximately $222.6 million, or 63.1% of revenue.
- Operating expenses rose to $443.6 million from $338.4 million. Research and development increased 70.5% to $62.1 million; sales and marketing increased 32.9% to $178.0 million; general and administrative increased 41.9% to $73.6 million.
- Net loss improved year over year despite a larger operating loss, principally because FY2018 included a $66.3 million income-tax expense, largely from a valuation allowance against deferred tax assets. FY2019 tax expense was $0.6 million.
- Cash, cash equivalents and short-term investments totaled $346.5 million at year-end, versus $152.3 million a year earlier; restricted cash was a further $8.1 million. Current assets were $397.4 million and current liabilities $74.7 million.
- In February 2019, the company issued $287.5 million of 0.50% convertible senior notes due 2024. The balance-sheet carrying amount was $216.0 million after accounting discounts; net proceeds after issuance and capped-call costs were approximately $245.8 million. The company spent $33.7 million on capped calls.
- FY2019 investing cash flow was positive $10.9 million, including net investment sales and maturities, offset in part by $25.6 million of capitalized software development and $9.1 million of property and equipment spending. Financing cash flow was positive $249.2 million, largely from the note issuance.
Material changes and unusual items
- FY2019 revenue grew 18.9%, while operating loss widened by $49.1 million as the company increased investment in growth. Management said profitability had been deprioritized since FY2018 in favor of technology, sales, marketing and channel investment.
- The company adopted ASC 606 using the modified retrospective method. The adoption increased FY2019 reported revenue by $0.6 million and reduced reported net loss by $11.7 million versus the prior accounting treatment, chiefly through capitalization and amortization of sales commissions. The company recorded $48.0 million in current and non-current deferred sales commission assets at year-end.
- Expense classifications were revised, moving customer deployment, support and related costs out of sales and marketing into cost of revenue, research and development, and general and administrative expense. The reclassification did not affect operating loss, net loss or cash flows; prior periods were recast for comparability.
- FY2018 included a $9.5 million non-cash impairment charge relating primarily to DXI goodwill and other assets; no comparable charge was recorded in FY2019.
- FY2019 general and administrative expense included a $7.2 million incremental indirect-tax expense from sales and use tax audit findings. Total accrued contingent indirect taxes were $8.0 million at March 31, 2019, compared with $0.8 million a year earlier.
- Quarter ended March 31, 2019 revenue was $93.8 million versus $79.3 million in the year-ago quarter; quarterly net loss was $28.1 million versus $13.3 million.
Outlook, risks and contingencies
- No specific numerical revenue or earnings guidance was provided. Management expected customer count and average monthly service revenue per customer to continue growing in FY2020, while service gross margin was expected to decline slightly and research and development, sales and marketing, and general and administrative spending to increase.
- Management expected continued operating losses in the near term and warned that growth investments may not deliver the expected returns. Migration of legacy customers to X Series in FY2020 and FY2021 may incur unrecovered professional-services costs and increase churn.
- Key risks include competition and pricing pressure, customer churn, longer and less predictable enterprise sales cycles, service reliability and cybersecurity, dependence on third-party networks and data centers, privacy and telecommunications regulation, and execution of international growth and acquisitions.
- The company believed existing cash, investments and anticipated operating cash flows would meet working-capital and expenditure needs for the next 12 months. However, the notes may require cash repurchases or cash settlement upon specified events or conversions; the company cautioned that future cash generation may be insufficient to service debt or fund obligations.
- A patent-infringement complaint filed in November 2018 was dismissed with prejudice in February 2019 after a defensive patent organization secured a license covering 8x8. The company reported no known legal matters expected to materially harm its financial position, results or cash flows, while noting litigation outcomes remain uncertain.
- After year-end, 8x8 assigned a 132-month lease for approximately 162,000 square feet of San Jose office space to Roku. It expected release from the lease and related $8.1 million letter of credit by the end of FY2022 or shortly thereafter.
Investor verification points
- Reconcile reported FY2019 results with the ASC 606 adoption impact, deferred commission capitalization and the expense reclassification.
- Track whether service-revenue growth and higher enterprise ARPU translate into improved service and overall margins, given rising operating costs and negative operating cash flow.
- Review cash consumption, the $287.5 million note principal, conversion and repurchase terms, capped-call coverage and potential dilution.
- Monitor the $8.0 million indirect-tax accrual, ongoing tax audits, and whether additional taxes, penalties or interest could exceed recorded estimates.
- Assess X Series adoption and legacy migrations, including retention, implementation costs and customer churn; compare actual performance with management’s stated expectations.