OpenText Corporation — Q1 Fiscal 2015 Form 10-Q Summary
Reporting period: Three months ended September 30, 2014, compared with the three months ended September 30, 2013. The filing is presented in U.S. dollars under U.S. GAAP. OpenText provides enterprise information management software and services, including enterprise content management, business process management, customer experience management, information exchange, discovery, cloud, and managed services. The company employed approximately 8,000 people at quarter-end.
Financial performance and condition
| Metric | Q1 FY2015 | Q1 FY2014 | Change |
|---|---|---|---|
| Total revenue | $453.8 million | $324.5 million | +39.9% |
| License revenue | $58.6 million | $55.3 million | +6.0% |
| Cloud services revenue | $150.0 million | $41.6 million | +260.0% |
| Customer support revenue | $183.9 million | $168.4 million | +9.2% |
| Gross profit | $305.9 million | $218.0 million | +40.3% |
| GAAP gross margin | 67.4% | 67.2% | +0.2 percentage points |
| Income from operations | $103.0 million | $52.0 million | +97.9% |
| GAAP operating margin | 22.7% | 16.0% | +6.7 percentage points |
| Net income attributable to OpenText | $64.6 million | $30.6 million | +111.0% |
| Diluted EPS | $0.53 | $0.26 | +103.8% |
| Operating cash flow | $138.5 million | $79.9 million | +73.3% |
- Non-GAAP diluted EPS was $0.97 versus $0.69; non-GAAP operating margin was 34.3% versus 30.6%. These measures exclude specified amortization, share-based compensation, special charges, other income or expense, and related tax effects.
- Cloud services represented 33.1% of revenue, compared with 12.8% in the prior-year quarter. Customer support represented 40.5% of revenue.
- Cloud services gross margin declined to 61.3% from 65.7%, primarily because of the acquired GXS business and the nonrecurrence of prior-year sales-tax liability releases. Professional services gross margin improved to 26.0% from 23.1%.
- Cash and cash equivalents were $492.5 million at September 30, 2014, up from $427.9 million at June 30, 2014. Cash increased $64.6 million during the quarter.
- Cash flow from investing activities was negative $37.8 million, including $30.2 million of property and equipment additions. Cash flow from financing activities was negative $27.2 million, including $21.0 million of dividends and $13.4 million of debt repayments.
- Total debt was $1.306 billion, consisting primarily of $502.5 million under Term Loan A and $794.0 million under Term Loan B. The company had not drawn its $100 million revolving credit facility.
- Term Loan A and Term Loan B bear floating interest rates. A one-percentage-point increase in rates would increase estimated annual interest expense by approximately $5.0 million and $7.9 million, respectively.
- The company reported a consolidated leverage ratio of 2.15:1, consolidated interest coverage of 14:1, and consolidated net leverage of 1.33:1 at September 30, 2014. Management stated that covenant capacity remained available.
- Unfunded pension obligations totaled $63.2 million, including $1.5 million classified as payable within 12 months.
Material changes versus the prior comparable period
- The primary driver of revenue growth was the January 2014 acquisition of GXS Group, which substantially increased cloud services and related operating scale. The acquisition was accounted for using preliminary purchase-price allocations and had total preliminary consideration of $1.219 billion, including $1.102 billion of cash and $116.8 million of equity.
- Cloud services revenue increased by $108.4 million, primarily from GXS. Cloud services cost of revenue increased by $43.7 million, reducing the related gross margin.
- Operating expenses increased by $36.9 million. Increases included research and development of $4.5 million, sales and marketing of $10.7 million, general and administrative of $6.9 million, depreciation of $5.8 million, and customer-intangible amortization of $8.6 million.
- Net interest and other related expense increased to $11.1 million from $4.4 million because of Term Loan B, which was issued to fund the GXS acquisition.
- Other income or expense shifted to a $9.9 million expense from $1.9 million of income, primarily reflecting transactional foreign-exchange effects.
- The effective GAAP tax rate declined to 21.2% from 38.2%, primarily because of lower valuation-allowance changes and lower expense for unrecognized tax benefits, interest, and penalties.
- Special charges were $4.2 million versus $3.7 million. The OpenText/GXS restructuring plan accounted for $2.8 million in the quarter; total expected costs under the plan were approximately $30.0 million, of which $22.1 million had been recorded. Completion was expected by the end of Fiscal 2015.
- The company declared and paid a quarterly dividend of $0.1725 per share, compared with $0.15 per share in the prior-year quarter. A further $0.1725 dividend was declared on October 22, 2014, payable December 12, 2014, subject to board discretion.
Guidance, outlook, risks, and unusual items
Management identified Fiscal 2015 priorities as growth in earnings and cash flow, continued investment in enterprise information management capabilities, expansion in cloud and other growth markets, and integration of acquisitions. Management expects customer support and cloud transaction-processing revenue to remain recurring and to grow, but the filing does not provide formal numeric full-year revenue, earnings, or cash-flow guidance.
- Management expects cash, operating resources, and available credit facilities to fund working capital, contractual commitments, capital expenditures, dividends, and operating needs for at least the next 12 months. Additional material acquisitions could require new financing and would remain subject to credit-facility covenants.
- Contractual obligations totaled $1.719 billion, including $1.493 billion of long-term debt obligations, $202.7 million of operating leases, and $23.3 million of purchase obligations.
- Material tax matters include a $10.5 million New York assessment that has been accrued, a $2.7 million Brazilian tax claim supported by a $3.7 million bank guarantee, $10.2 million accrued for potential Brazilian indirect taxes, interest, and penalties, and $1.4 million accrued for an Indian transfer-pricing matter.
- The IRS is examining Fiscal 2010–Fiscal 2012 returns, including the company’s international intellectual-property reorganization and acquisition integration. No adjustments had been proposed and no material accrual had been recorded; potential adjustments could be material.
- The company stated that aggregate litigation losses were not material and that it did not believe a material loss beyond recognized amounts was reasonably possible as of the filing date.
- Key operating risks include acquisition integration and restructuring, cloud and network reliability, cybersecurity and privacy, competition, customer renewals and demand, foreign-exchange movements, floating-rate debt, tax audits, intellectual-property claims, regulatory changes, and retention of key personnel.
- The company used foreign-exchange forward contracts with a $74.7 million notional amount to hedge a portion of Canadian-dollar payroll exposure. A 10% weakening of foreign currencies against the U.S. dollar would reduce reported foreign-currency cash by approximately $15.4 million.
- Management concluded that disclosure controls were effective and that no changes materially affected internal control over financial reporting during the quarter.
Important facts for investors to verify
- Determine how much of the 39.9% revenue growth and earnings improvement is attributable to GXS versus organic growth, and monitor post-acquisition retention and integration performance.
- Track cloud-services gross margin, recurring revenue trends, transaction volumes, and the cost structure of the acquired cloud business.
- Review debt amortization, floating-rate exposure, covenant headroom, and refinancing or maturity requirements, particularly for Term Loan B.
- Reconcile GAAP results with management’s non-GAAP measures, including the continuing effect of acquired-intangible amortization, share-based compensation, restructuring charges, and foreign-exchange expense.
- Monitor completion and final purchase-price allocation for GXS, including potential changes to goodwill, tax-related balances, and unrecorded liabilities.
- Assess outcomes of the IRS examination and other tax disputes, including the New York, Brazil, and India matters, against recorded accruals and guarantees.
- Verify the sustainability of quarterly dividends given debt obligations, acquisition plans, capital expenditures, and the board’s discretion over future declarations.