Pegasystems Inc. — Q3 2020 Form 10-Q
Business context and reporting period. Unaudited results for the quarter and nine months ended September 30, 2020, compared with the corresponding 2019 periods. Pegasystems develops enterprise software and is transitioning toward subscription arrangements, particularly Pega Cloud; management expected this transition to be substantially complete in early 2023.
Financial performance
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Revenue | $226.0m | $216.7m | $718.9m | $634.8m |
| Gross profit / margin | $148.2m / 65.6% | $135.8m / 62.7% | $484.9m / 67.4% | $402.4m / 63.4% |
| Operating loss | $(61.8)m | $(46.8)m | $(137.6)m | $(133.1)m |
| Net loss | $(19.3)m | $(30.3)m | $(65.4)m | $(91.4)m |
| Diluted loss per share | $(0.24) | $(0.38) | $(0.82) | $(1.16) |
- Revenue mix: Q3 Pega Cloud revenue increased 56% to $54.8m; maintenance rose 6% to $74.7m. Term license revenue fell 27% to $35.9m and perpetual license revenue fell 57% to $3.9m. Nine-month subscription revenue (Pega Cloud, maintenance and term license) increased 27% to $538.1m.
- Cash flow: Operating activities used $26.3m in the first nine months, versus $13.5m used in 2019. Investing activities used $210.7m, including $190.3m of investment purchases and $21.8m of property and equipment investment. Financing provided $449.6m, primarily from the notes issuance.
- Liquidity and debt: Cash, cash equivalents and marketable securities totaled $468.0m at September 30, 2020, versus $68.4m at year-end 2019. The company had $600m principal amount of 0.75% convertible notes due March 2025, carried at $513.8m net; no revolver borrowings were outstanding. A $100m revolving facility was available, subject to covenants.
Material changes and management commentary
- Revenue grew 4% in Q3 and 13% year to date. The shift to subscriptions raises the share of revenue recognized over contract terms and, management said, can slow revenue and operating cash-flow growth during the transition.
- Backlog increased 38% year over year to $838.0m; annual contract value increased 21%. Pega Cloud revenue grew 55% year to date.
- Gross margin improved, which management attributed to revenue growth, the cloud transition and efficiency gains as Pega Cloud scales. Operating expenses rose 15% in Q3 and 16% year to date, including higher compensation, headcount and equity compensation; lower travel costs partly offset selling and marketing increases.
- Management reported maintenance renewal rates above 90% for the first nine months. COVID-19 had not materially affected results or operating cash flows through September 30, but its ultimate effects remained uncertain.
- The company reported a $19.8m nine-month gain on capped call transactions, a non-operating fair-value item, and $13.1m of interest expense on the notes, including noncash discount and issuance-cost amortization. The nine-month tax benefit increased partly because of stock-based compensation tax benefits and a CARES Act carryback claim.
Outlook, risks and contingencies
No specific revenue or earnings guidance is stated in the provided filing text. Management said current cash, operating cash flow and borrowing capacity should fund operations and quarterly dividends for at least the next 12 months, while warning the subscription transition may continue to weigh on near-term operating cash flow. The company intended to pay a quarterly dividend of $0.03 per share, subject to Board discretion.
Key risks include uncertain COVID-19 effects on client demand, sales cycles and collections; execution of the cloud transition; negative operating cash flow; and the $600m notes, including possible cash settlement or repurchase obligations, dilution, and related counterparty risk on capped calls. The credit facility requires at least $200m in cash and investments through 2021, and later imposes leverage and interest-coverage covenants. Contractual obligations totaled $241.3m, including purchase obligations and operating leases.
Important facts for investors to verify
- Whether cloud and subscription growth, ACV and backlog convert into recognized revenue and cash on schedule.
- Drivers and duration of operating cash use, including investment and stock-based compensation costs.
- Liquidity and covenant headroom under the credit facility, alongside the notes’ maturity, conversion and potential cash-settlement terms.
- How much of the reported improvement in net loss reflects recurring operations versus tax benefits and capped-call fair-value gains.
- Any subsequent COVID-19 effects on demand, renewals, sales cycles, client payments or operating costs.