Twilio Inc. — Q2 2018 Form 10-Q
Business context and reporting period. Twilio provides a cloud communications platform that developers use to embed voice, messaging and video in software applications. This unaudited quarterly report covers the three and six months ended June 30, 2018; comparisons are with the corresponding 2017 periods. Amounts below are in U.S. dollars.
Financial performance and position
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $147.8m | $95.9m | $276.9m | $183.2m |
| Gross profit / margin | $79.8m / 54% | $53.5m / 56% | $149.3m / 54% | $103.6m / 57% |
| Operating loss | $22.0m | $7.1m | $46.2m | $21.8m |
| Net loss | $24.0m | $7.1m | $47.7m | $21.3m |
| Net loss per share, diluted | $0.25 | $0.08 | $0.50 | $0.24 |
| Operating cash flow | Not presented quarterly | $19.2m | $(4.0)m |
- Q2 revenue grew 54% year over year. Usage-based fees were 84% of revenue. U.S. revenue was $111.2m (75%); international revenue was $36.5m (25%).
- Q2 cost of revenue rose 60%, faster than sales, primarily reflecting higher network-provider and cloud-infrastructure costs. Gross margin declined two percentage points to 54%; management cited currency movements, lower pricing, a higher international usage mix and increased provider fees.
- Operating expenses rose 68% to $101.8m in Q2. R&D increased 34%, sales and marketing 44%, and G&A 411%. The G&A comparison was amplified by a $12.2m prior-year release of tax liabilities that did not recur; 2018 increases also reflected personnel and public-company and litigation costs.
- Q2 non-GAAP operating income was $2.2m (1% margin), versus a non-GAAP operating loss of $4.7m (negative 5%) in Q2 2017. This company-defined measure excludes specified items, including stock-based compensation; it does not replace GAAP results.
- At June 30, cash and cash equivalents were $493.5m and short-term marketable securities $301.1m. Current assets were $884.0m and current liabilities $122.8m. Total assets were $985.8m.
- Twilio issued $550m principal of 0.25% convertible senior notes due 2023. Net carrying value was $423.1m; disclosed fair value was approximately $571.6m. The company paid $58.5m for capped calls. The notes’ initial conversion price is approximately $70.90 per share; management stated its current intent is to settle principal in cash.
- Six-month investing cash outflow was $138.1m, chiefly net purchases of marketable securities and capitalized software development. Financing cash inflow was $496.3m, mainly from the notes. Cash, cash equivalents and restricted cash increased $378.2m to $499.0m.
Material changes and operating indicators
- Base revenue increased 54% in Q2 to $135.0m; variable revenue increased 54% to $12.8m. For the first half, revenue increased 51%, with base revenue up 50% and variable revenue up 62%.
- Active Customer Accounts increased 32% year over year to 57,350. Q2 dollar-based net expansion rate was 137%, compared with 131%; first-half rate was 134%. These measures exclude Variable Customer Accounts where specified by the company’s definitions.
- The 10 largest Active Customer Accounts generated 17% of Q2 revenue, compared with 21% a year earlier. For the first half, they generated 18%. WhatsApp represented 7% and Uber 4% of first-half revenue; usage by these customers can fluctuate.
- International revenue grew to 25% of Q2 sales from 22% a year earlier. International gross margins are typically lower than domestic margins, according to the filing.
- Stock-based compensation was $21.0m in Q2 and $38.5m in the first half. Twilio adopted ASC 606 on January 1, 2018; the reported impact was insignificant apart from a $0.7m opening retained-earnings adjustment. Prior-period results were not restated.
Outlook, risks and unusual items
- No specific numeric revenue or earnings guidance is provided in this filing. Management expects operating costs to increase, plans continued investment in product development, sales and marketing, and international expansion, and prioritizes platform reach and revenue growth over maximizing near-term gross margin. It believes available cash, cash equivalents, marketable securities and operating cash flows will cover anticipated working capital and capital expenditures for at least 12 months, while cautioning that this assessment could prove incorrect.
- Twilio reported a $21.9m liability for state sales and other taxes and is in discussions with states about potential prior-period obligations. The company was evaluating the implications of the Supreme Court’s Wayfair decision; actual exposure could differ materially from its estimate.
- Patent litigation with Telesign remained ongoing, and a California privacy class action had two classes certified. Twilio said outcomes and potential losses could not be reasonably estimated at this stage; no amounts were accrued for indemnification obligations.
- Disclosure controls were deemed ineffective at quarter-end because of an unremediated material weakness in tracking and categorizing capitalized internal-use software costs. Management said the financial statements fairly present results in all material respects and that remediation efforts were underway.
- Other principal risks include continued losses and uncertain profitability, customer usage and concentration, competition and pricing pressure, reliance on AWS and network providers, service reliability and cybersecurity, international expansion and foreign exchange, privacy and telecommunications regulation (including GDPR and the California Consumer Privacy Act), and the ability to service or cash-settle the convertible notes.
Important facts for investors to verify
- Whether customer usage growth and the 137% expansion rate persist, particularly given variable usage and exposure to large customers.
- Whether gross margin stabilizes amid network-provider cost increases, foreign exchange effects, international growth and pricing decisions.
- Progress in remediating the material weakness in software-cost capitalization and the accuracy of future reporting.
- Potential changes to the $21.9m tax liability and developments in the Telesign and privacy litigation.
- Cash, dilution and refinancing implications of the $550m convertible notes, conversion conditions and capped-call arrangements.
- Whether operating cash generation can continue while losses, stock-based compensation and planned investment remain significant.