Business context and reporting period
Dynatrace, Inc. provides software intelligence and monitoring products for enterprise cloud environments. This Form 10-Q covers the quarter and nine months ended December 31, 2019, the third quarter of fiscal 2020; comparisons are with the same periods in 2018. The company completed its IPO and corporate reorganization in August 2019.
Key financial metrics
Amounts below are in millions of dollars, except percentages, per-share data, and customer and ARR metrics.
| Metric | Three months ended Dec. 31, 2019 | Three months ended Dec. 31, 2018 | Nine months ended Dec. 31, 2019 | Nine months ended Dec. 31, 2018 |
|---|---|---|---|---|
| Revenue | $143.3 | $114.7 | $395.2 | $314.8 |
| Gross profit / margin | $114.6 / 80% | $88.9 / 77% | $297.4 / 75% | $237.9 / 76% |
| Operating income (loss) | $7.6 | $(3.6) | $(180.0) | $(49.1) |
| Net income (loss) | $1.8 | $(22.1) | $(464.7) | $(85.6) |
| Diluted earnings (loss) per share | $0.01 | $(0.09) | $(1.78) | $(0.36) |
- Revenue mix: Quarterly subscription revenue was $128.5 million, up 40%, and represented 90% of revenue; license revenue fell 68% to $3.9 million. For the nine months, subscription revenue rose 40% to $352.5 million, while license revenue declined 68% to $10.4 million.
- Cash flow: Nine-month operating cash flow was $(207.1) million, versus $84.9 million provided in the prior-year period. Investing cash use was $15.9 million; financing provided $360.3 million. Cash increased by $137.2 million to $188.6 million.
- Liquidity and debt: At December 31, cash and cash equivalents were $188.6 million. Long-term debt was $540.2 million net of unamortized costs; principal outstanding was $551.1 million. The company had no revolver borrowings, $48.2 million available under its $60 million facility, and $11.8 million of letters of credit outstanding. It reported compliance with applicable debt covenants.
- Recurring-revenue indicators: Total ARR was $534.5 million, versus $372.3 million a year earlier. Dynatrace-platform ARR was $465.9 million, up from $227.0 million; Classic ARR declined to $68.6 million from $145.3 million. Dynatrace customers increased to 2,208 from 1,149, and the platform dollar-based net expansion rate remained above 120%.
- Contracted revenue: Remaining performance obligations were $800.3 million, of which the company expected to recognize 57% as revenue over the next 12 months.
Material changes versus the prior comparable period
- Quarterly revenue grew 25%, principally from adoption of the Dynatrace platform and expansion among existing customers. Subscription mix increased while Classic license sales continued to decline as customers transition to the platform.
- Quarterly gross margin increased to 80% from 77%; nine-month gross margin edged down to 75% from 76%. Nine-month services gross margin declined to 10% from 26%, with management citing higher personnel and share-based compensation costs.
- The company moved from a quarterly operating loss to operating income, but reported a nine-month operating loss of $180.0 million. Nine-month net loss increased substantially, chiefly reflecting reorganization-related tax expense and higher share-based compensation.
- Nine-month share-based compensation rose to $209.7 million from $42.3 million. Management attributed much of the increase to conversion and modification of pre-IPO incentive awards; the modification generated $145.3 million of incremental expense.
- The company repaid the outstanding second-lien term loan during the second quarter of fiscal 2020 and used IPO proceeds in part to repay debt. The follow-on offering in December was a sale by existing stockholders; Dynatrace received no proceeds.
Outlook, commentary, risks, and unusual items
- Management said existing cash, cash equivalents, and cash generated from operations should fund working capital and capital expenditure needs for at least the next 12 months. No specific revenue or earnings guidance is provided in the filing.
- The $255.8 million estimated tax expense arose from taxable reorganization/spin-off transactions; the company said the final liability could differ and it could be responsible for additional taxes, interest, or penalties. Compuware contributed $265 million toward the estimated tax liability, and the company reported making estimated tax payments.
- Nine-month operating cash use was affected by the tax payment and substantial non-cash share-based compensation. Cash paid for taxes was $268.3 million in the period, compared with $3.5 million a year earlier.
- Key risks include sustaining subscription growth, converting Classic customers to the Dynatrace platform, competition, fluctuating enterprise spending and sales cycles, service availability and cybersecurity, foreign-exchange exposure, privacy regulation, and servicing variable-rate debt. The company reported prior phishing attacks that compromised a limited number of email accounts.
- Management reported no material legal proceedings and no material changes to internal control over financial reporting during the quarter. The filing states that adoption of lease accounting guidance in April 2020 was expected to materially affect the balance sheet through recognition of operating-lease assets and liabilities, but not materially affect the statement of operations.
Important facts for investors to verify
- Whether Dynatrace-platform ARR growth and customer expansion continue to offset falling Classic ARR and license revenue.
- How operating cash flow develops after the unusual reorganization-related tax payments and elevated share-based compensation.
- The final tax liability associated with the spin-offs, including any exposure beyond the estimated $255.8 million expense and the scope of tax-insurance coverage.
- The company’s debt balance, interest costs, covenant compliance, and ability to meet debt obligations as business investment and operating costs evolve.
- The impact of ongoing equity compensation on reported expenses and shareholder dilution; the filing reported 280.8 million shares outstanding at December 31, 2019.