Dynatrace, Inc. — Form 10-Q Summary
Reporting period: Three months ended June 30, 2019, the first quarter of fiscal 2020 (fiscal year ends March 31). The filing was signed September 5, 2019. Unless noted otherwise, financial amounts below are in U.S. dollars.
Business context
Dynatrace sells software intelligence products for enterprise applications and cloud infrastructure. Its primary growth offering is the Dynatrace platform; the company no longer sells its Classic products to new customers and is transitioning existing customers toward the platform. The statements retrospectively reflect a corporate reorganization and exclude Compuware Corporation and SIGOS LLC, which were spun out. Management cautions that historical results may not represent the results of a stand-alone company.
Key financial results
| Metric | Quarter ended June 30, 2019 | Prior-year quarter | Change |
|---|---|---|---|
| Revenue | $122.6 million | $98.2 million | +25% |
| Subscription revenue | $108.1 million | $77.9 million | +39% |
| License revenue | $3.8 million | $11.1 million | -66% |
| Services revenue | $10.6 million | $9.2 million | +15% |
| Gross profit / margin | $93.0 million / 76% | $73.5 million / 75% | Margin +1 percentage point |
| Operating loss | $33.0 million | $19.2 million | Loss widened |
| Net loss | $49.2 million | $23.6 million | Loss widened |
| Basic and diluted loss per share | $0.21 | $0.10 | Loss per share increased |
| Operating cash flow | $34.2 million | $58.6 million | Decreased |
Subscription revenue represented 88% of revenue, compared with 79% in the prior-year quarter. Subscription gross margin rose to 85% from 83%; services gross margin declined to 17% from 25%. Operating expenses increased 36% to $126.0 million. Share-based compensation rose to $41.4 million from $13.2 million, contributing materially to higher expenses and the wider loss. Interest expense was $19.2 million, versus $10.7 million.
Liquidity, debt and operating metrics
- Cash and cash equivalents were $57.5 million at June 30, up from $51.3 million at March 31. Cash from operations exceeded investing outflows of $4.5 million; financing outflows were $23.7 million, principally $19.0 million of term-loan repayments and $4.7 million of acquisition installments.
- Funded first- and second-lien term loans had aggregate principal of approximately $1.017 billion at quarter-end. The first-lien loan bore 5.4% interest and the second-lien loan 9.4%. The company reported compliance with applicable debt covenants.
- The balance sheet also included a $600.2 million payable to a related party: $478.5 million principal and $121.7 million accrued interest. The filing says the corresponding related-party receivable was contributed to the company and eliminated in connection with the spin-off.
- The $60 million revolving facility had no borrowings, $59.5 million available and $0.5 million of letters of credit outstanding. Management said cash, cash generation and available resources were expected to cover working capital and capital expenditure needs for at least 12 months.
- Dynatrace platform customers increased to 1,578 from 733 year over year. Platform ARR was $326.3 million, Classic ARR was $111.3 million and total ARR was $437.6 million, compared with $306.1 million total ARR a year earlier. Platform dollar-based net expansion rate exceeded 120% in both periods.
- Remaining performance obligations were $613.9 million, including $375.6 million billed and $238.3 million unbilled; the company expected to recognize 57% over the next 12 months.
Material developments, outlook and risks
- IPO after quarter-end: On August 1, 2019, the company sold 38.9 million shares at $16 per share, receiving approximately $590.3 million net proceeds. It used $297.7 million to repay first-lien borrowings and $88.8 million to repay second-lien borrowings, plus a $0.9 million second-lien prepayment fee. Selling stockholders sold an additional 2.1 million shares; the company received no proceeds from those shares.
- Spin-off tax exposure: The company estimated approximately $275 million of tax relating to the Compuware spin-off. Compuware distributed $265 million to fund most of the estimated liability. The final tax amount remained under calculation, and Dynatrace could be responsible for any excess; the filing discusses possible additional taxes, interest and penalties.
- Business transition: Management attributed subscription growth to new platform customers and expansion within existing customers. Classic license revenue fell as sales declined and customers transitioned to the platform. Classic products accounted for 25% of total ARR, down from 61% a year earlier.
- Outlook: The filing provides no numerical financial guidance. Management expects continued investment in research and development, sales and marketing, and public-company costs. It identifies growth, customer conversion and retention, partner relationships, and product development as important performance drivers.
- Principal risks: The company highlights substantial debt and variable interest exposure; execution risk in converting Classic customers; intense competition and uncertain market adoption; potential revenue and cash-flow variability; cloud service availability and cybersecurity risks; international, foreign-exchange and regulatory risks; and uncertainty around the spin-off tax liability. Management reported no material legal proceedings and no off-balance-sheet arrangements.
Important facts for investors to verify
- How post-IPO debt repayment and the related-party payable elimination affect the company’s continuing liabilities and interest burden.
- The final tax liability for the Compuware spin-off, whether the $265 million funding is sufficient, and the status and scope of any tax insurance.
- Whether platform ARR and customer growth can offset declining Classic ARR and license revenue.
- How much of the reported loss and operating expense growth reflects share-based compensation and IPO-related costs, and how those costs develop after the IPO.
- Whether operating cash generation remains durable given lower year-over-year operating cash flow and material debt service requirements.