Bandwidth Inc. — Q2 2019 Form 10-Q
Reporting period: Three and six months ended June 30, 2019; unaudited. Bandwidth provides a cloud communications platform (CPaaS) for voice, messaging, 911 and phone-number services, alongside legacy and other communications services. Unless noted, financial amounts below are in millions of dollars.
Financial performance
- Q2 revenue: $56.8 million, up 18% year over year. CPaaS revenue was $48.0 million, up 20%; Other revenue was $8.8 million, up 4%.
- Q2 gross profit and margins: Gross profit was $26.7 million, up 23%. GAAP gross margin rose to 47% from 45%; CPaaS gross margin was 45% versus 42%. Non-GAAP gross margin was 50% versus 47%.
- Q2 operating results: Operating expenses increased 48% to $30.5 million, and the company reported an operating loss of $3.8 million, compared with operating income of $1.2 million a year earlier. Net income was $3.5 million versus $10.5 million; Q2 2019 included a $6.5 million income tax benefit despite a pretax loss of $3.1 million. Adjusted EBITDA was $24,000 versus $3.2 million, and non-GAAP net loss was $895,000 versus non-GAAP net income of $4.1 million.
- First-half results: Revenue increased 9% to $110.1 million; CPaaS grew 18% to $93.0 million, while Other revenue fell 24% to $17.1 million. Gross profit was $51.2 million versus $49.4 million, and GAAP gross margin was 47% versus 49%. The prior-year period included $6.3 million of revenue from a one-time legal settlement; excluding it, management reported first-half 2019 revenue growth of 16% and gross margin improvement to 47% from 45%.
- First-half profitability and cash flow: Operating loss was $9.6 million versus operating income of $9.9 million; net income was $5.5 million versus $16.7 million, including a $14.2 million tax benefit in 2019. Adjusted EBITDA was negative $1.6 million versus positive $13.9 million. Operating cash flow was negative $5.4 million versus positive $17.1 million, and free cash flow was negative $14.9 million versus positive $12.5 million.
- Balance sheet and liquidity: At June 30, cash and cash equivalents were $140.1 million and marketable securities were $55.8 million. Current assets were $233.2 million and current liabilities $34.8 million. Total liabilities were $44.4 million and stockholders’ equity was $269.1 million. No revolving-credit borrowings were outstanding; the $25 million facility was available, subject to covenants.
Changes, business drivers and management commentary
- Q2 active CPaaS customer accounts rose 34% to 1,467, while dollar-based net retention declined to 113% from 119%. For the first half, retention was 112% versus 117%.
- Management attributed CPaaS growth primarily to higher voice and messaging usage, more phone-number and 911 services, and customer-account growth. Lower usage prices partly offset growth: $2.1 million in Q2 and $5.6 million for the first half. Management said pricing reductions were intended to expand platform reach and scale.
- Operating expenses rose substantially as the company invested in product development and sales capacity; management expects operating expenses to increase in absolute dollars and plans continued investment in R&D and sales and marketing.
- The first-half cash balance increase was driven largely by the March follow-on offering. Bandwidth sold 2.875 million Class A shares at $54.25 per share and received approximately $146.6 million net of underwriting discounts and offering expenses. Management believes cash, marketable securities, the credit facility and operating cash flows will meet anticipated needs for at least 12 months, while cautioning that additional financing may be needed and may not be available on acceptable terms.
Outlook, risks and unusual items
- The filing provides no specific numerical revenue, earnings or margin guidance. Management expects continued investment and expense growth; actual performance may differ materially from expectations.
- Key risks include competition and pricing pressure, customer usage and retention, scaling the network and operations, service availability and 911 reliability, cybersecurity and data privacy, telecom regulation, vendor dependence, and the ability to hire and retain qualified personnel.
- Bandwidth faces lawsuits and investigations concerning billing, collection and remittance of 911 taxes and surcharges in several jurisdictions. Certain Georgia and Pennsylvania cases had favorable developments, but other matters remained unresolved; management intends to defend the cases. The filing states management did not expect the legal matters to have a material adverse effect, but litigation outcomes remain uncertain.
- The company reported a $6.3 million prior-year settlement-related revenue item, which makes first-half comparisons less representative without adjustment. Q2 and first-half GAAP net income also included substantial income-tax benefits; effective tax rates were unusually high and affected by stock-compensation tax deductions.
- The $25 million revolving facility matures March 1, 2022, requires minimum liquidity and quarterly revenue tests, and was undrawn with covenants met at quarter-end. The company also reported $31.3 million of future minimum operating lease payments and $6.6 million of purchase obligations.
- Bandwidth adopted ASC 606 on January 1, 2019 using the modified retrospective method, recording a $174,000 increase to opening accumulated deficit. The filing also expects lease-accounting adoption to increase reported assets and liabilities; the full impact had not been determined.
Important facts for investors to verify
- Whether CPaaS usage and customer growth can offset pricing reductions while retention has declined.
- Whether operating expense growth can be brought into line with gross profit growth, and whether adjusted EBITDA and operating cash flow recover.
- How performance compares when the prior-year $6.3 million settlement and tax benefits are considered.
- Developments and potential exposure in the 911 tax and surcharge litigation, investigations and related contingencies.
- Cash deployment, capital spending, lease commitments, credit-facility covenant headroom and the effect of the follow-on offering’s share dilution.
- Voting control: Class B shares carry ten votes each, and the filing states pre-IPO holders and affiliates held 73.7% of voting power at June 30, 2019.