APPIAN CORP quarterly report, Q2 FY2018

Business context and reporting period

Appian Corporation provides a low-code software development platform and related professional services. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2018, compared with the corresponding 2017 periods. Amounts below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.

Financial performance and liquidity

• Q2 revenue grew 38.6% year over year; subscriptions, software and support revenue rose 50.1% to $33.0 million, and professional services revenue rose 26.7% to $26.8 million. Six-month revenue increased 36.9%.
• Management’s separate subscription revenue metric was $27.0 million for Q2 and $52.5 million for the first half. Subscription revenue retention was 119%, versus 120% at June 30, 2017.
• At June 30, cash and cash equivalents were $50.4 million, down from $73.8 million at December 31, 2017. Operating cash use in the first half included a $9.1 million increase in receivables, which management attributed partly to billing and collection timing during the ERP system implementation.
• The company had no borrowings outstanding and a $20 million revolving credit facility, maturing in November 2022. It reported compliance with the facility’s covenants. Current liabilities were $103.4 million, including $72.9 million of current deferred revenue.
• Management said existing cash, expected operating cash flows and available credit were sufficient for at least the next 12 months.

Material changes and notable items

• Q2 gross margin improved, while first-half gross margin declined from 64.0% to 61.8%. Professional services gross margin fell to 30.1% in Q2 and 27.9% for the first half, which management attributed chiefly to greater subcontractor use, lower utilization during hiring, and redeploying some staff to customer success roles. Subscription, software and support margin increased to 91.5% in Q2 and 90.9% for the first half.
• Q2 operating loss narrowed year over year, but first-half net loss increased. Other expense included foreign-exchange losses of $2.7 million in Q2 and $1.9 million in the first half, compared with foreign-exchange gains in the respective 2017 periods.
• A $4.4 million perpetual software license sale to the U.S. Air Force contributed to Q2 revenue and subscription, software and support margin. Perpetual licenses had otherwise been a small share of revenue.
• Revenue mix shifted modestly toward subscriptions, software and support: 55.2% of Q2 revenue versus 51.0% in 2017; first-half mix was 53.8% versus 53.3%. Professional services remained a substantial portion of revenue.
• Cash used in operations increased to $23.6 million for the first half. The filing cites receivable collection timing, increased deferred commissions and a decrease in deferred revenue among the working-capital factors.

Outlook, risks and contingencies

• No specific revenue or earnings guidance is provided. Management expects to continue investing in sales and marketing, research and development, international expansion and customer support; it expects operating expenses and cost of revenue to rise in absolute dollars as the business grows.
• The company entered into a lease for new Tysons, Virginia headquarters space. The filing describes approximately $81.9 million of aggregate base rent, plus taxes and operating expenses, and elsewhere reports total committed lease payments of $86.4 million. The lease term is 150 months; a $9.4 million letter of credit was arranged in connection with it.
• Foreign-currency exposure, particularly to the British pound, euro, Australian dollar and Swiss franc, affected results. Appian said it had not hedged currency transactions and that it did not expect an immediate 10% currency move to materially affect operating results.
• Government agencies accounted for 20.1% of Q2 revenue and 16.5% of first-half revenue. Foreign customers contributed 28.1% and 29.6%, respectively. No single end customer exceeded 10% of revenue in either period.
• Appian expected to adopt the new revenue standard on January 1, 2019 using the full retrospective method. It anticipated significant timing effects for on-premises term-license revenue and changes to accounting for contract acquisition costs; the impact was still being quantified.
• The company reported no legal proceedings expected to have a material adverse effect and no material changes to the risk factors in its 2017 Form 10-K. Management said disclosure controls were effective; a new ERP system was implemented in Q2 and was not introduced in response to an identified control deficiency.

Important facts for investors to verify

• Whether the elevated receivables and operating cash outflow reflect temporary ERP-related billing and collection timing, and whether collections subsequently normalized.
• How much of revenue growth and margin improvement depended on the one-time $4.4 million Air Force perpetual license sale, and the trend in recurring subscription revenue and retention.
• Whether professional services margins recover as subcontractor use, utilization and staffing levels change, and whether partner-led delivery reduces services revenue as management expects.
• The final financial and cash-flow implications of the Tysons headquarters lease, including the difference between the disclosed $81.9 million base-rent commitment and $86.4 million total-payment figure.
• The eventual effects of Topic 606 adoption on reported revenue timing, deferred commissions and comparative periods.
• Exposure to currency movements, government customers, and the company’s ability to fund continued growth while operating cash flow remains negative.