Business context and reporting period
8x8, Inc. provides cloud-based VoIP and SaaS communications, including cloud telephony, contact center and meeting services. This unaudited Form 10-Q covers the three months ended June 30, 2015, the first quarter of fiscal 2016; comparisons are with the three months ended June 30, 2014. Unless otherwise stated, financial amounts below are in millions of dollars.
Financial performance and liquidity
| Metric | Q1 FY2016 | Q1 FY2015 | Change / note |
|---|---|---|---|
| Service revenue | $44.2 | $34.3 | Up 28.9% |
| Product revenue | $3.7 | $3.6 | Up 2.4% |
| Total revenue | $47.9 | $37.9 | Up 26.3% |
| Gross margin | 73% | 71% | Service margin 81%; product margin -18% |
| Operating income | $0.1 | $0.5 | Operating margin approximately 0.2% |
| Net income (loss) | $(0.5) | $0.01 | Basic and diluted loss per share: $(0.01) |
| Operating cash flow | $4.7 | $4.7 | Approximately unchanged |
| Cash and short-term investments | $157.0 | — | At June 30, 2015 |
Operating expenses rose 27.8% to $47.8 million, outpacing the $10.0 million increase in revenue. Sales and marketing was $23.8 million, R&D $5.1 million and general and administrative expense $6.1 million. A $0.8 million income-tax provision exceeded pretax income of $0.3 million, contributing to the quarterly net loss. Stock-based compensation expense increased to $3.0 million from $1.8 million.
At June 30, cash and cash equivalents were $29.3 million and short-term investments were $127.7 million. Cash declined $23.8 million from quarter-start, largely reflecting $23.4 million of net cash paid for acquisitions. Investing activities used $28.9 million; financing activities provided $0.3 million. Current assets were $174.1 million and current liabilities $25.7 million. Total liabilities were $30.6 million; the filing does not present a separate borrowing balance. It reports capital-lease arrangements but does not clearly state their associated liability balance.
Material changes versus the prior comparable period
- Revenue growth was driven primarily by service revenue, including a one-time $1.2 million accelerated technology-license payment, a larger business customer base and higher average service revenue per customer.
- Average monthly service revenue per business customer rose to $353 from $293, a 20% increase; DXI contributed $27 of the current-quarter figure. Midmarket revenue increased 40% and represented 45% of service revenue.
- Operating costs increased substantially: R&D rose 49.1%, sales and marketing 24.3%, and G&A 56.5%. Management attributed increases to staffing, stock compensation, selling costs and acquisition-related legal and consulting fees.
- Product revenue increased only 2.4%, while product costs rose 10.4%. Management cited heavier equipment discounting; product margin remained negative at -18%.
- The company acquired DXI Group in the UK and certain assets of Quality Software Corporation (QSC). These transactions increased goodwill and intangible assets; DXI contributed approximately $1.1 million in revenue after acquisition, while QSC’s contribution was not material. Acquisition pro forma results were not provided.
Outlook, commentary, risks and unusual items
Management said it expects business customer numbers and average monthly service revenue per customer to continue growing in fiscal 2016. New monthly recurring revenue sold to midmarket customers and through channel sales teams increased 38% year over year. The company added more than 1,000 net new customers excluding DXI, while noting that it is intentionally adding fewer one-to-five-line customers as it focuses on larger businesses. No numerical earnings or revenue guidance was provided.
Management highlighted demand from midmarket customers, larger deals and displacement of premises-based systems. DXI’s usage-based revenue and contribution to average revenue per customer may fluctuate. Other notable items include $0.8 million in acquisition-related costs, increased stock compensation, and the one-time license payment noted above.
Risks and contingencies include competition and pricing pressure, customer renewal and churn, service reliability and support, acquisition integration and realization of expected benefits, intellectual-property litigation, product warranty exposure, regulatory and tax compliance, and foreign-exchange exposure. The filing identifies $2.2 million remaining on a customer-support commitment and $5.6 million of future minimum network-service payments through fiscal 2018. Tax jurisdictions were conducting audits; the company reported $2.4 million of unrecognized tax benefits at March 31, 2015 and no significant change during the quarter. The CallWave and UrgenSync cases were dismissed with prejudice; the Slocumb matter was stayed pending arbitration, and the Bear Creek case was administratively closed while patent reexamination appeals continued. Management reported disclosure controls were effective as of June 30, 2015.
Important facts for investors to verify
- Whether recurring service growth can continue without one-time license revenue, and how midmarket mix and customer revenue per account evolve.
- Whether operating expense growth moderates and profitability improves, given the quarterly loss, low operating margin and negative product margin.
- Cash and investment balances, acquisition-related cash requirements, and the final purchase accounting and integration performance for DXI and QSC.
- Whether reported cash generation is sustainable as deferred revenue, working capital and stock-based compensation affect operating cash flow.
- Potential outcomes and costs from the Slocumb arbitration, Bear Creek patent matter, tax audits and other disclosed contingencies.