8x8, Inc. — Form 10-Q Summary
Reporting period: Quarter and six months ended September 30, 2011 (fiscal 2012 Q2). Unaudited results; dollar amounts below are in millions unless noted.
Business context
8x8 provides IP telephony, video, conferencing, unified communications, managed hosting, and cloud services. It reported more than 26,700 business customers. The quarter included the September acquisition of Contactual, a cloud-based contact-center solutions provider, and the June acquisition of cloud-services provider Zerigo.
Financial and operating metrics
| Metric | Three months ended Sept. 30, 2011 | Three months ended Sept. 30, 2010 | Six months ended Sept. 30, 2011 | Six months ended Sept. 30, 2010 |
|---|---|---|---|---|
| Revenue | $19.819 | $17.367 | $38.326 | $34.201 |
| Operating income | $0.865 | $1.951 | $2.471 | $2.793 |
| Net income | $0.832 | $1.969 | $2.779 | $2.987 |
| Diluted EPS | $0.01 | $0.03 | $0.04 | $0.05 |
| Operating cash flow | Not presented separately | Not presented separately | $3.242 | $4.294 |
- Quarterly revenue rose 14.1%; service revenue increased 12.1% to $18.013 million and product revenue increased 39.4% to $1.806 million. Six-month revenue rose 12.1%.
- Quarterly operating margin was approximately 4.4%, versus 11.2% a year earlier; six-month operating margin was 6.4%, versus 8.2%. Overall gross margin was approximately 66% for the quarter, compared with 68% a year earlier.
- Quarterly net income fell 57.7%; six-month net income fell 7.0%. The six-month 2011 tax benefit of $0.299 million included a valuation-allowance release related to a deferred tax liability recorded in the Zerigo acquisition.
- Six-month investing cash use was $1.924 million and financing cash use was $0.592 million. Cash and cash equivalents increased by $0.726 million to $17.200 million.
- At September 30, cash, cash equivalents, and short-term investments totaled about $19.1 million; current assets were $22.777 million and current liabilities $13.117 million. Total liabilities were $13.526 million. No material funded borrowing is shown; capital lease obligations totaled $0.094 million.
- Business customers numbered 26,727, up from 22,167 a year earlier. Quarterly churn was 2.1%; average monthly service revenue per business customer was $207. Product margin remained negative, at -45% in the quarter.
Material changes and unusual items
- Contactual was acquired on September 15 for preliminary consideration of $29.267 million, primarily 6.7 million shares issued before withholding-related share reduction. The preliminary purchase accounting included $20.176 million of goodwill and $11.150 million of identifiable intangible assets; valuations could change materially.
- Zerigo was acquired in June for $1.941 million of estimated consideration, including cash, shares, and contingent payments. It added $1.256 million of goodwill.
- Goodwill increased from $1.210 million at March 31 to $22.642 million at September 30; net intangible assets rose from $0.214 million to $12.336 million, principally reflecting acquisitions.
- Quarterly SG&A rose 26.0% to $10.742 million, reflecting higher payroll, advertising, promotions, and legal costs, including Contactual acquisition-related legal fees. Higher operating expenses weighed on earnings despite revenue growth.
- Six-month operating cash flow declined from $4.294 million to $3.242 million. Management attributed the decrease primarily to higher operating expenses and acquisition-related costs and liabilities, partly offset by working-capital changes and the tax benefit.
- The company repurchased 301,800 shares for approximately $0.889 million during the six months. Its $10 million repurchase authorization expired October 19, 2011.
Outlook, risks, and contingencies
- The filing provides no quantified revenue or earnings guidance. Management said service revenue was expected to remain nearly all of revenue for the foreseeable future.
- Management identified risks including customer demand and retention, service reliability, competition and pricing, customer acquisition costs, product defects and supply availability, working-capital needs, and intellectual-property claims.
- Potential FCC changes to intercarrier compensation could raise carrier costs, requiring price increases or reducing margins. Other regulatory uncertainties include VoIP E-911 location requirements, Internet-access rules, billing requirements, and accessibility obligations.
- Management warned that Contactual integration may be difficult or costly, anticipated synergies may not be realized, and integration could disrupt operations or customer relationships. Shares issued in the acquisition could become eligible for resale beginning about six months after closing and could pressure the stock price.
- 8x8 was defending two patent-related lawsuits: Bear Creek Technologies (re-filed in August 2011) and Klausner Technologies (filed October 25, 2011). Neither plaintiff had made a specific monetary demand, and potential liability could not be estimated. The filing also describes indemnification obligations whose maximum exposure may be uncapped in some cases.
- Committed obligations included $2.2 million remaining under a customer-support vendor contract, future third-party network-service payments, and operating and capital lease payments. Management said it was not aware of litigation it believed would materially harm financial position, results, or cash flows.
Important facts for investors to verify
- Whether Contactual integration, customer retention, and cross-selling deliver the expected growth and synergies; review subsequent purchase-accounting adjustments.
- Whether revenue growth can translate into stronger operating profitability given rising SG&A and persistently negative product margins.
- Whether operating cash flow remains sufficient to fund operations, capital spending, and acquisition-related obligations.
- Developments in FCC proceedings, the Bear Creek and Klausner cases, and other regulatory or intellectual-property exposures.
- The potential effect of acquisition-related share resale and future equity compensation on per-share results and stock price.