Guidewire Software, Inc. — Fiscal 2016 Second-Quarter Form 10-Q Summary
Business Context and Reporting Period
Guidewire provides software for property and casualty insurers, including core transaction processing, data management and analytics, and digital engagement. The unaudited filing covers the three and six months ended January 31, 2016, compared with the corresponding 2015 periods. The company operates as one reportable segment.
Financial Performance and Liquidity
| Metric | Three months ended Jan. 31, 2016 | Three months ended Jan. 31, 2015 | Six months ended Jan. 31, 2016 | Six months ended Jan. 31, 2015 |
|---|---|---|---|---|
| Total revenue | $102.1 million | $89.4 million | $184.4 million | $169.2 million |
| License revenue | $53.4 million | $43.7 million | $85.7 million | $72.5 million |
| Maintenance revenue | $14.3 million | $12.2 million | $28.3 million | $24.7 million |
| Services revenue | $34.5 million | $33.6 million | $70.4 million | $72.0 million |
| Gross profit | $67.2 million | $55.4 million | $114.3 million | $99.3 million |
| Gross margin | 66% | 62% | 62% | 59% |
| Operating income (loss) | $7.7 million | $3.3 million | $(1.3) million | $(0.3) million |
| Net income (loss) | $0.9 million | $4.0 million | $(0.7) million | $1.0 million |
| Adjusted EBITDA | $26.0 million | $18.7 million | $34.0 million | $28.8 million |
| Operating cash flow | Not separately provided | Not separately provided | $27.0 million | $4.1 million |
- License revenue increased 22% in the quarter and 18% year to date, primarily from newer products, increased InsuranceSuite adoption, and sales to new and existing customers. Term licenses represented nearly all license revenue.
- Maintenance revenue increased 17% in the quarter and 15% year to date. Services revenue increased 3% in the quarter but declined 2% year to date as certain implementation projects neared completion and system integrator partners assumed more implementation work.
- Operating expenses increased 14% in the quarter and 16% year to date, driven primarily by higher headcount, compensation, research and development, sales and marketing, and stock-based compensation.
- The six-month net loss reflected higher operating expenses and a much smaller tax benefit than in the prior year. The second-quarter effective tax rate was unusually high at 87.5%, largely because of discrete tax items and other tax-rate differences.
- Cash, cash equivalents and investments totaled $700.8 million at January 31, 2016, including $216.9 million of cash and cash equivalents, $374.0 million of short-term investments, and $109.8 million of long-term investments.
- Working capital was $569.4 million. The company reported no commercial debt arrangements, no material non-cancellable purchase commitments, and no amounts outstanding under its letters of credit.
- Total assets were $824.3 million and total liabilities were $102.4 million at January 31, 2016. Deferred revenue was $62.0 million, up 18% from July 31, 2015.
Material Changes Versus the Prior Comparable Period
- Quarterly revenue growth accelerated to 14%, while year-to-date revenue increased 9%.
- Revenue mix shifted toward higher-margin license and maintenance revenue; services declined to 34% of quarterly revenue from 37% in the prior-year quarter and to 38% year to date from 42%.
- Gross margin improved by four percentage points in both the quarter and year-to-date period, primarily due to the more favorable revenue mix.
- Quarterly operating income more than doubled, but year-to-date operating results remained a loss because operating expense growth exceeded revenue growth.
- Six-month operating cash flow increased by $23.0 million, benefiting from improved collections, deferred-revenue changes, and lower working-capital usage.
- Stock-based compensation increased to $31.7 million year to date from $25.5 million, and unrecognized stock-based compensation totaled $129.2 million at January 31, 2016.
- The company adopted ASU 2015-17 prospectively, classifying deferred tax assets as noncurrent. It was evaluating the impact and transition method for the new revenue-recognition standard, effective for the company beginning August 1, 2018.
Guidance, Outlook, Risks and Unusual Items
- Management expects positive annual operating cash flow and believes existing cash, investments, and other liquidity sources are sufficient to fund operations for at least the next 12 months.
- Research and development, sales and marketing, and general and administrative expenses are expected to continue increasing in absolute dollars as the company expands products, international operations, infrastructure, and sales capacity.
- Management expects maintenance revenue to grow with license revenue, although more slowly in the current fiscal year because of the delayed effects of adverse currency movements. Services revenue is expected to decline as a percentage of total revenue as system integrators perform more implementation work.
- Results are subject to significant seasonality, with higher customer orders generally in the second and fourth fiscal quarters. Revenue timing can also be affected by early customer payments, contract terms, perpetual-license buyouts, and lengthy sales and implementation cycles.
- Key risks include competition, reliance on a relatively small number of large insurance customers, customer renewals, lengthy implementations, system-integrator execution, international expansion, foreign-currency movements, data security and privacy regulation, intellectual-property claims, employee retention, and future revenue-recognition changes.
- The company recorded a $5.0 million investment in a privately held company’s convertible note, classified as a Level 3 long-term investment. It also reported $420,000 of gross unrealized investment losses, which management did not consider other-than-temporary.
- No material legal proceeding was expected to have a material adverse effect, and management concluded that disclosure controls and procedures were effective as of January 31, 2016.
Important Facts for Investors to Verify
- Whether license growth and higher recurring revenue continue after considering seasonality, early payments, and revenue-recognition timing.
- Whether rising research and development, sales and marketing, headcount, and stock-based compensation expenses translate into sustained operating-income growth.
- The sustainability of the improved gross margin and the effect of services mix and system-integrator reliance on future margins.
- Customer renewal, expansion, and concentration trends, including exposure to large P&C insurance carriers.
- The future effect of the new revenue-recognition standard beginning in fiscal 2019 and the company’s eventual transition method.
- Foreign-currency exposure, international privacy requirements, data-security controls, and potential intellectual-property or indemnification liabilities.
- The valuation and liquidity of the $5.0 million Level 3 convertible note and the company’s continued use of available-for-sale investments.