Pegasystems Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020. Pegasystems develops and sells enterprise software, including low-code, customer-engagement, and digital-process-automation applications. Financial statements are unaudited.
Financial performance and liquidity
| Metric | Q1 2020 | Q1 2019 / comparison |
|---|---|---|
| Revenue | $265.6 million | $212.5 million; up 25% |
| Gross profit and margin | $186.1 million; 70% | $138.1 million; 65% |
| Operating loss and margin | $24.3 million; (9.2%) | $34.0 million; (16.0%) |
| Net loss | $25.4 million; $0.32 per share | $28.7 million; $0.37 per share |
| Operating cash flow | $(18.3) million | $22.7 million |
| Investing cash flow | $(12.6) million | $(1.5) million |
| Financing cash flow | $502.2 million | $(25.6) million |
Cash and cash equivalents were $538.1 million at March 31, 2020, up from $68.4 million at year-end, primarily reflecting the convertible-note issuance. Current assets were $984.1 million and current liabilities were $339.5 million. The company reported $600 million principal amount of 0.75% convertible senior notes due March 2025; their balance-sheet carrying amount, net of discount and issuance costs, was $505.1 million. There were no revolver borrowings under the $100 million credit facility. Management said cash, operating cash flow, and borrowing capacity should fund operations and quarterly dividends for at least 12 months.
Changes versus the prior-year quarter
- Revenue growth was led by subscription revenue, which rose 44% to $207.4 million. Cloud revenue grew 57% to $43.5 million, and term-license revenue grew 87% to $90.3 million; perpetual-license revenue fell 76% to $3.7 million.
- Gross margin improved to 70% from 65%, with management citing improved cloud efficiency as the business scaled. Consulting gross profit turned negative, at $(1.2) million, versus $0.4 million.
- Operating expenses rose 22% to $210.4 million, including higher compensation and headcount. Selling and marketing included $5.3 million of costs related to cancellation of the live PegaWorld event.
- Net loss narrowed, but results included a $18.6 million fair-value loss on capped-call transactions and $2.3 million of interest expense related to the new notes. The income-tax benefit was $23.8 million versus $8.3 million, reflecting stock-compensation tax benefits and a CARES Act carryback benefit, partly offset by GILTI.
- Operating cash flow declined from positive $22.7 million to negative $18.3 million. Management attributed the change primarily to the shift toward cloud arrangements, whose cash is generally collected over an average service period of three years, and increased investment in cloud and sales and marketing.
Outlook, risks, and notable items
- Management reported no material COVID-19 impact on results or operating cash flow through March 31, 2020, but said the ultimate impact was uncertain. Risks include delayed or reduced client spending, longer sales cycles, contract concessions, and disruption to clients, vendors, employees, or partners. The company moved employees toward remote work and shifted PegaWorld to a virtual format.
- Management expects the revenue mix to continue shifting toward subscriptions, particularly cloud. It cautioned this may slow near-term total-revenue growth and operating cash-flow growth, or result in negative operating cash flow.
- Annual contract value was up 21% year over year, backlog (remaining performance obligations) was up 19% to $753.8 million, and cloud revenue was up 57%. These are company-reported performance metrics, not formal earnings guidance.
- The notes carry a 0.75% coupon and have an initial conversion price of approximately $135.05 per share. Capped calls cover about 4.4 million shares, with an initial cap price of $196.44; the company says they are generally intended to reduce conversion dilution, subject to the cap. No notes were eligible for holder conversion at quarter-end.
- The company planned to continue a quarterly cash dividend of $0.03 per share, subject to Board discretion. It had $39.5 million of remaining authorization under its public stock-repurchase program at quarter-end.
- Other disclosed exposures include foreign-currency fluctuations, convertible-debt servicing and potential dilution, capped-call counterparty and valuation risk, and purchase obligations of $163.4 million. The filing states that COVID-19’s longer-term effects could not be estimated.
Key facts for investors to verify
- Whether subscription and cloud growth can sustain revenue expansion while offsetting lower perpetual-license revenue and the associated timing impact on cash collections.
- Whether operating cash flow recovers from the first-quarter outflow as cloud investments scale and working-capital movements normalize.
- The terms, accounting impact, cash-settlement exposure, potential dilution, and covenant implications of the $600 million convertible notes and related capped calls.
- The assumptions behind backlog and ACV growth, and the timing and conversion of unbilled receivables, which totaled $292.8 million.
- How COVID-19 affects customer demand, sales cycles, event costs, and the company’s ability to maintain its stated liquidity and dividend plans.