Tucows Inc. — Q3 2014 Form 10-Q
Reporting period: Three and nine months ended September 30, 2014. Amounts are in U.S. dollars. Tucows provides domain registration and related internet services, retail mobile services through Ting, and domain-portfolio services.
Financial performance and liquidity
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $38.9 million | $35.6 million | $108.9 million | $96.8 million |
| Gross profit / margin | $11.6 million / 29.8% | $10.0 million / 28.1% | $29.9 million / 27.4% | $23.2 million / 24.0% |
| Operating income / margin | $3.9 million / 10.0% | $3.7 million / 10.3% | $6.8 million / 6.2% | $4.9 million / 5.0% |
| Net income | $2.7 million | $2.6 million | $4.5 million | $3.3 million |
| Diluted EPS | $0.23 | $0.23 | $0.39 | $0.29 |
| Cash from operations | $5.0 million | $3.7 million | $6.1 million | $7.1 million |
At September 30, cash was $13.6 million and total assets were $126.0 million. Current assets of $73.6 million exceeded current liabilities of $71.2 million. The company had repaid its $6.3 million loan balance and reported no outstanding borrowings; its revolving facilities remained available. It was in compliance with its financial covenants. Nine-month capital spending was $0.6 million; operating cash flow less capital spending was approximately $5.5 million.
Changes versus the prior comparable period
- Revenue rose 9% in Q3 and 12% year to date. Ting revenue increased 107% in Q3 and 129% year to date, reflecting subscriber growth; reported subscribers reached 83,000 versus 36,000 a year earlier. Tucows noted it revised its subscriber definition, reducing the reported Q3 count by about 2,000 accounts.
- Domain Services revenue declined 6% in Q3 and 2% year to date. Wholesale domain registration volumes were broadly flat, while large customers continued migrating to their own registrar accreditations or systems. Domains under management fell to 13.651 million from 14.242 million.
- Portfolio revenue decreased to $2.2 million in Q3 from $4.2 million, and to $4.2 million year to date from $6.4 million. The prior periods included gains on sales or withdrawals of gTLD applications; lower premium-domain sales and weaker advertising traffic also contributed.
- Gross margin improved, but Q3 operating margin was slightly lower year over year. Nine-month net income increased despite lower operating cash flow.
Outlook, risks and unusual items
- Management said operating cash flow should cover anticipated working capital, capital expenditure and loan needs for at least the next 12 months. No quantified revenue or earnings guidance was provided. Management expected 2014 sales and marketing expense to increase, primarily to support Ting.
- After quarter-end, the .online joint venture secured the right to negotiate to become the exclusive registry operator. Tucows expected to contribute $4 million to $5 million toward auction costs and initial seed capital, in exchange for a minority interest.
- In the first nine months, Tucows recorded a $577,000 impairment for indefinite-life domain names it decided not to renew. Q3 general and administrative expense included approximately $200,000 of costs for an abandoned acquisition. Nine-month losses on currency forward contracts were $886,000; the related derivative liability was $762,000 at quarter-end.
- Foreign-exchange exposure is significant because much of the company’s expenses are in Canadian dollars while revenue is primarily in U.S. dollars. Management estimated a hypothetical 10% adverse exchange-rate movement would reduce Q3 net income by about $0.6 million. Forward contracts mitigate, but do not eliminate, this exposure.
- Other stated risks include domain-sector pricing and competition, further customer migration, variability in portfolio advertising and domain sales, and reliance on the mobile network operator supporting Ting. Tucows said ordinary-course litigation was not expected to materially harm the business; no material changes to the prior annual report’s risk factors were reported.
Investor facts to verify
- Whether Ting’s subscriber and revenue growth can continue while maintaining service margins and controlling acquisition, processing and bad-debt costs.
- Whether domain customer migrations and lower portfolio revenue persist, and how they affect recurring revenue and domain counts.
- The expected funding, timing, ownership economics and commercial prospects of the .online joint venture, including the anticipated $4 million to $5 million contribution.
- Cash-flow trends, availability and terms of credit facilities, compliance with covenants, and the effect of Canadian-dollar movements and hedging.
- Assumptions supporting goodwill and intangible-asset values, deferred tax assets, and the estimated effects of adopting the new revenue-recognition standard.