Teradata Corporation 2019 Q3 Form 10-Q Summary
Business Context and Reporting Period
Teradata provides cloud-based analytics software, hardware, consulting, and related support services, with a strategic shift from perpetual, capital-intensive purchases toward subscription-based and cloud offerings through its Teradata Vantage platform. This unaudited Form 10-Q covers the three and nine months ended September 30, 2019, compared with the corresponding 2018 periods.
Effective January 1, 2019, Teradata reorganized its operating segments into the Americas, EMEA, and APAC regions. The company also adopted the new lease accounting standard, recognizing approximately $68 million of additional net lease assets and $66 million of lease liabilities at adoption; prior periods were not recast.
Key Financial Metrics
| Metric | Q3 2019 | Q3 2018 | 9M 2019 | 9M 2018 |
|---|---|---|---|---|
| Total revenue | $459 million | $526 million | $1,405 million | $1,576 million |
| Recurring revenue | $343 million | $312 million | $1,012 million | $926 million |
| Perpetual software licenses and hardware | $16 million | $77 million | $76 million | $243 million |
| Consulting services | $100 million | $137 million | $317 million | $407 million |
| Gross profit | $247 million | $264 million | $707 million | $737 million |
| Gross margin | 53.8% | 50.2% | 50.3% | 46.8% |
| Operating income | $10 million | $14 million | $15 million | $20 million |
| Net income (loss) | $10 million | $18 million | $(1) million | $15 million |
| Diluted EPS | $0.09 | $0.15 | $(0.01) | $0.12 |
Recurring revenue represented 75% of Q3 revenue versus 59% in the prior-year quarter and 72% for the first nine months versus 59% in the prior-year period. Management reported third-quarter annual recurring revenue of $1.389 billion, up 12% year over year including a 2% foreign-currency headwind. Subscription bookings represented 90% of Q3 bookings, and management expected approximately 90% for full-year 2019.
Q3 operating expenses were $237 million, down from $250 million, with lower SG&A partly offset by increased R&D investment. For the nine-month period, SG&A was $447 million and R&D was $245 million. The nine-month effective tax rate was zero percent on a pretax loss, reflecting discrete tax items and the earnings mix; management estimated a full-year 2019 effective tax rate of approximately 300%.
Cash Flow, Liquidity, and Debt
- Cash provided by operating activities was $94 million for the first nine months of 2019, down from $257 million in 2018.
- Free cash flow, defined by the company as operating cash flow less capital expenditures and capitalized software additions, was $48 million versus $160 million.
- Capital expenditures were $43 million and capitalized software additions were $3 million.
- Cash, cash equivalents, and restricted cash declined to $529 million at September 30, 2019, from $716 million at December 31, 2018; cash and cash equivalents alone were $528 million.
- Teradata repurchased approximately 6.2 million shares for $239 million during the first nine months and had approximately $560 million remaining under its general repurchase authorization at September 30, 2019.
- Term-loan principal outstanding was $488 million. The term loan was hedged with an interest-rate swap, producing an all-in fixed rate of 4.36% at quarter-end.
- No borrowings were outstanding under the $400 million revolving credit facility, and the company reported compliance with its debt covenants.
- Current and long-term finance and operating lease liabilities totaled $168 million at September 30, 2019.
Management stated that available cash, operating cash flow, and the undrawn credit facility should be sufficient for at least the next twelve months, subject to operating performance and other business risks.
Material Changes Versus the Prior Comparable Period
- Q3 revenue decreased 13%, while nine-month revenue decreased 11%. Foreign exchange reduced Q3 revenue by approximately 2% and nine-month revenue by approximately 3%.
- Recurring revenue increased 10% in Q3 and 9% for the first nine months, primarily reflecting migration from perpetual transactions to subscriptions.
- Perpetual software license and hardware revenue declined 79% in Q3 and 69% for the first nine months.
- Consulting revenue declined 27% in Q3 and 22% for the first nine months as Teradata realigned resources toward higher-value engagements intended to drive software consumption.
- Gross margin improved to 53.8% from 50.2% in Q3 and to 50.3% from 46.8% for the nine-month period, primarily because of the higher recurring-revenue mix. Management noted that subscription transactions currently carry lower margins than legacy maintenance revenue.
- Operating income and net income declined in Q3 despite lower operating expenses. The nine-month period moved from net income of $15 million to a net loss of $1 million.
- Operating cash flow and free cash flow declined substantially, reflecting the transition to subscription billing and collections, restructuring payments, and higher payments related to prior-year variable compensation.
- Q3 regional revenue declined 8% in the Americas, 15% in EMEA, and 23% in APAC. Currency effects were particularly unfavorable in EMEA and APAC.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management expects recurring revenue and annual recurring revenue to continue growing as customers adopt subscription offerings, while perpetual revenue and consulting revenue are expected to continue declining.
- Management expected foreign-currency translation to reduce full-year 2019 projected revenue growth by approximately one to two percentage points, based on October 31, 2019 rates.
- The company is undergoing a business transformation, including a headquarters transition and changes to its go-to-market organization. It recognized $13 million of related costs in the first nine months of 2019, incurred $6 million of accelerated amortization on the former headquarters lease, and expected total plan costs of approximately $36 million to $40 million.
- On November 5, 2019, Oliver Ratzesberger ceased serving as President and CEO and resigned from the board. Victor L. Lund became interim President and CEO while the board conducted a search.
- On November 11, 2019, the company approved a workforce reduction plan expected to result in $20 million to $25 million of costs and cash expenditures, substantially completed by the first half of 2020.
- Management anticipated a material discrete tax benefit from a potential internal reorganization of foreign intellectual-property rights in the fourth quarter of 2019 or first quarter of 2020, but the amount was not reasonably estimable.
- Teradata is suing SAP over alleged trade-secret misappropriation, copyright infringement, and anticompetitive conduct. SAP filed patent-infringement counterclaims in July 2019; the likelihood and amount of any loss were not estimable.
- Hardware components are assembled exclusively by Flex Ltd., and disruptions at Flex or certain preferred suppliers could affect shipments and operating results.
- The company disclosed customer credit concentration risk, foreign-exchange exposure, variable-rate debt exposure, execution risk from its subscription and cloud transition, and risks associated with restructuring and workforce reductions.
- As of September 30, 2019, the company reported no litigation believed likely to materially adversely affect its business, financial condition, results, or cash flows, other than the uncertainty inherent in the disclosed SAP proceedings.
Important Facts for Investors to Verify
- Whether recurring-revenue and ARR growth offsets the continued decline in perpetual, hardware, and consulting revenue.
- The pace at which subscription and cloud offerings improve cash collections and gross margins.
- Future operating cash flow and free cash flow, particularly after restructuring payments, share repurchases, and debt and lease obligations.
- The sustainability of liquidity after the $239 million of year-to-date share repurchases and the scheduled term-loan repayments due through 2023.
- The effect of the CEO transition and workforce reduction plan on execution, costs, and customer relationships.
- The timing and actual amount of any anticipated discrete tax benefit from the foreign intellectual-property reorganization.
- The development and potential exposure from SAP’s patent counterclaims and Teradata’s related claims.
- The comparability of 2019 lease-related balances and expenses with 2018 because prior periods were not recast under the new lease standard.