Progress Software Corporation (NASDAQ: PRGS) — Q3 FY2020 Form 10-Q
Reporting period: Three and nine months ended August 31, 2020. Financial statements are unaudited. Amounts below are in U.S. dollars; financial figures are in millions unless stated otherwise.
Business context
Progress sells software licenses and related maintenance and services across OpenEdge, Data Connectivity and Integration, and Application Development and Deployment. Products are sold through direct and indirect channels, including application partners, OEMs and resellers. The company said it serves more than 100,000 enterprise customers and 1,700 ISVs. Ipswitch, acquired in April 2019, contributed materially to current-period revenue.
Financial performance
| Metric | Q3 FY2020 | Q3 FY2019 | Nine months FY2020 | Nine months FY2019 |
|---|---|---|---|---|
| Revenue | $109.7 | $106.7 | $319.8 | $296.3 |
| Gross profit / margin | $95.0 / 87% | $85.9 / 80% | $275.9 / 86% | $241.8 / 82% |
| Operating income / margin | $33.2 / 30% | $16.0 / 15% | $89.2 / 28% | $46.1 / 16% |
| Net income | $24.0 | $13.6 | $62.1 | $31.1 |
| Diluted EPS | $0.53 | $0.30 | $1.37 | $0.69 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $102.1 | $91.9 |
- Quarterly revenue rose 3% as reported and in constant currency; nine-month revenue rose 8% as reported and 9% in constant currency.
- Software license revenue fell 10% in Q3 to $27.5 million and 7% over nine months to $77.8 million. Maintenance and services revenue increased 8% in Q3 to $82.2 million and 14% over nine months to $242.0 million.
- Q3 revenue by segment: OpenEdge $85.8 million (+9%); Data Connectivity and Integration $4.5 million (-49%); Application Development and Deployment $19.4 million (approximately flat). Nine-month changes were +14%, -21%, and +1%, respectively.
- Management attributed overall revenue growth primarily to Ipswitch, while Data Connectivity and Integration was affected by timing of OEM term-license renewals. Ipswitch contributed $17.6 million of Q3 revenue and $50.1 million for the nine months.
- Profitability improved substantially, driven by higher maintenance revenue, lower acquired-intangible amortization, and lower operating expenses. The company cited reduced travel and in-person event costs during COVID-19 and lower investment in cognitive application products as expense factors.
Cash, debt and liquidity
- At August 31, cash and cash equivalents were $220.6 million and short-term investments were $9.5 million, totaling $230.1 million, up $56.4 million from November 30, 2019.
- Nine-month operating cash flow was $102.1 million. Investing activities provided $6.5 million, including net investment maturities; financing activities used $44.9 million. Capital expenditures were $3.4 million.
- Term-loan principal was $289.7 million, including $16.9 million due within 12 months; the facility matures April 30, 2024. The stated interest rate at quarter end was 1.81%. No revolving-credit borrowings were outstanding at August 31; $1.9 million of letters of credit were outstanding. The company reported compliance with financial covenants.
- Current assets were $320.2 million and current liabilities $227.7 million. Deferred revenue totaled $171.4 million. Remaining performance obligations were $175 million, with approximately 88% expected to be recognized within one year.
- Cash returned to shareholders during the first nine months included $22.4 million of dividend payments and $20.0 million of share repurchases. The quarterly dividend was subsequently raised from $0.165 to $0.175 per share. The repurchase authorization had $230 million remaining at August 31.
- Management said cash, operating cash generation and credit availability were expected to be sufficient for foreseeable needs for at least 12 months, including debt service, dividends, repurchases and acquisitions.
Material changes and unusual items
- The sharp increase in earnings and margins partly reflects lower acquired-intangible amortization: Q3 cost-of-revenue amortization was $1.7 million versus $7.5 million a year earlier; operating-expense amortization was $4.2 million versus $7.1 million. Certain assets were fully amortized and Kinvey/DataRPM assets had been impaired in FY2019.
- Q3 FY2019 included a $3.6 million out-of-period income-tax benefit correcting prior-quarter tax provision errors. The company said the error was not material to those earlier quarters. Q3 effective tax rates were 21% in 2020 and negative 11% in 2019; the filing attributes the prior-year comparison partly to that correction. Nine-month rates were 22% and 18%.
- Restructuring expense was $1.8 million for the first nine months, including $1.2 million of operating-lease right-of-use asset impairment. Management did not expect additional material costs for the cited actions.
- ASC 842 lease adoption on December 1, 2019 added operating-lease right-of-use assets and liabilities; the filing reported no material effect on operations, liquidity or debt-covenant compliance.
Outlook, risks and contingencies
- The filing provides no specific revenue or earnings guidance. Management said COVID-19 had negatively affected the business and could cause further revenue reductions or customer and partner payment delays; the full impact remained uncertain.
- On October 5, 2020, after quarter end, Progress completed its $220 million cash acquisition of Chef Software. The filing says consideration was funded using existing cash and credit-facility borrowings; the debt note reports a $98.5 million revolving-credit draw after quarter end. Chef results are to be included in Application Development and Deployment.
- Key disclosed risks include COVID-19 and economic uncertainty, fluctuating license sales and transaction timing, foreign exchange exposure, dependence on partners and OpenEdge, product competition and development, cyber-security and privacy compliance, and acquisition integration and execution. The filing specifically notes the invalidation of the EU-U.S. Privacy Shield framework and potential consequences for data transfers.
- Ordinary-course legal claims were disclosed; management did not believe their outcomes would materially affect financial position, results or cash flows. The company reported no off-balance-sheet arrangements and no material change to contractual obligations disclosed in its prior annual report.
- Management reported effective disclosure controls and procedures and no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- How much of reported growth and earnings improvement is organic versus attributable to Ipswitch, lower amortization and temporary cost reductions.
- Whether weakness in software licenses, especially Data Connectivity and Integration, persists and how OEM renewal timing affects future quarters.
- The post-quarter Chef acquisition’s final funding, resulting leverage and liquidity, integration costs, and contribution to revenue and cash generation.
- The durability of operating cash flow and the ability to sustain dividends, repurchases and acquisition spending while servicing debt.
- COVID-19 effects on customer demand, collections and small- and mid-sized business customers, as well as foreign-exchange and privacy-regulation exposures.