VeriSign, Inc. — Q2 2013 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2013. Financial statements are unaudited. VeriSign operates registry services, principally .com and .net, alongside network intelligence and availability (NIA) services, which contribute an immaterial share of revenue.
Financial performance and liquidity
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Revenue | $239.3 million | $214.1 million | $475.8 million | $419.9 million |
| Operating income | $132.1 million | $107.0 million | $265.3 million | $205.9 million |
| Operating margin | 55.2% | 50.0% | 55.8% | 49.0% |
| Net income | $86.9 million | $68.5 million | $171.4 million | $136.5 million |
| Diluted EPS | $0.55 | $0.42 | $1.07 | $0.83 |
| Operating cash flow | Not separately provided | Not separately provided | $297.5 million | $245.2 million |
- Q2 revenue rose 12%, operating income 23%, and net income 27% year over year. First-half revenue rose 13%, operating income 29%, and net income 26%.
- Q2 cost of revenue was $46.6 million, equivalent to a 19.5% cost-of-revenue ratio; the comparable 2012 ratio was 20.0%. For the first half, the ratios were 19.7% and 20.0%, respectively.
- Revenue growth was principally driven by .com and .net registry activity and pricing, with active .com/.net domain names up 5% year over year to 124.3 million. EMEA revenue grew strongly; Q2 APAC revenue declined 2%.
- At June 30, cash and cash equivalents were $578.3 million and marketable securities were $1.419 billion, totaling $1.997 billion. The company also reported $7.7 million of restricted cash. Approximately $1.4 billion of cash, cash equivalents, and marketable securities was held by foreign subsidiaries; repatriation could trigger additional U.S. tax.
- First-half investing cash outflow was $34.0 million, including $37.6 million of property and equipment purchases. Financing cash inflow was $187.6 million, including $738.7 million net proceeds from senior notes, offset in part by $478.1 million of share repurchases and repayment of $100 million of credit-facility borrowings.
Debt, capital allocation, and material changes
- In April 2013, VeriSign issued $750 million of 4.625% senior unsecured notes due 2023. Proceeds repaid its $100 million credit-facility borrowing; the remaining proceeds were for general corporate purposes, including potential share repurchases. The revolving facility remained available with $200 million of capacity and no borrowings at quarter-end.
- The company had $1.25 billion principal amount of 3.25% subordinated convertible debentures due 2037. Because the share price exceeded the conversion threshold, holders could convert through September 30, 2013. The debt and related derivative were classified as current liabilities; management intended and said it had the ability to settle principal in cash, but conversion or repurchase needs exceeding available cash and operating cash flow could require financing.
- Q2 share repurchases were 7.1 million shares for $333.9 million; first-half repurchases were 10.1 million shares for $465.9 million. The board authorized a new $1 billion repurchase program on July 24, 2013.
- Interest expense increased to $19.8 million in Q2 from $12.6 million, and to $32.4 million for the first half from $24.9 million, mainly reflecting interest on the new notes and convertible-debt discount amortization.
- First-half net income included no discontinued-operations income, compared with $1.9 million in the 2012 period. Q2 non-operating income included a $3.0 million realized investment gain and a $2.0 million gain from revaluing the contingent-interest derivative; these items affect period comparisons.
Outlook, risks, and contingencies
- Management expected fiscal 2013 revenue to increase over 2012, citing domain-base growth and .net fee increases. .net fees rose from $5.11 to $5.62 effective July 1, 2013, with a further increase to $6.18 scheduled for February 1, 2014. Management expected continued domain-name growth but cautioned that economic uncertainty and search-engine changes could constrain registrations and renewals.
- Management expected cost of revenue as a percentage of revenue, research and development, and general and administrative expense ratios to remain broadly consistent with first-half levels. Sales and marketing as a percentage of revenue was expected to increase; interest expense was expected to rise in the remainder of 2013 because of the notes.
- VeriSign applied for 14 new gTLDs and continued to contract as a back-end provider for about 200 applicants. Timing, approvals, deployment, and revenues remain uncertain; the company did not expect significant new-gTLD revenue, if any, before 2014.
- Key risks include dependence on .com/.net and ICANN/DOC agreements and pricing terms; slower domain registrations or renewals; new-gTLD competition and deployment risks; cyberattacks, DDoS events, or system interruptions; and debt, conversion, repatriation-tax, and refinancing risks. Management said existing liquidity, operating cash flow, and borrowing capacity should cover working capital, capital expenditures, and debt service for at least 12 months.
- A shareholder derivative action concerning incentive-compensation disclosures remained under court advisement after dismissal motions. A separate securities class action concerning .com renewal prospects and revenue guidance was dismissed with prejudice in June 2013, with no payment by defendants. The company said it could not reasonably estimate possible losses for certain contingencies and did not expect current matters to materially harm its financial condition, results, or cash flows. It also disclosed a potential indemnity to Symantec capped at $50 million, subject to specified terms and thresholds.
Important facts for investors to verify
- Whether domain registrations and renewal rates continue to grow, and how search-engine changes and economic conditions affect them.
- Actual conversion or repurchase activity for the $1.25 billion convertible debentures, related cash needs, and any resulting dilution or financing requirements.
- Use of senior-note proceeds and the pace and price of share repurchases under the new authorization.
- Execution and market impact of the announced .net fee increases, and the timing, costs, and commercial success of new gTLDs.
- Availability and tax consequences of foreign-held liquidity, alongside ongoing debt-service obligations and contingent legal or indemnification exposures.