Alarm.com Holdings, Inc. — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2016. Unaudited consolidated results; 2015 comparatives were revised for an immaterial stock-based compensation error.
Business context
Alarm.com provides a cloud-based connected-home and business platform, sold primarily through a network of more than 6,000 service providers. Its solutions include interactive security, automation, video monitoring and energy management. SaaS and license fees are primarily recurring; hardware sales are more variable.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $67.8m | $54.0m | $191.3m | $152.0m |
| SaaS and license revenue | $44.6m | $36.2m | $126.7m | $102.2m |
| Hardware and other revenue | $23.2m | $17.8m | $64.7m | $49.7m |
| Operating income | $2.8m | $3.9m | $9.9m | $13.3m |
| Net income | $2.6m | $2.9m | $7.2m | $8.5m |
| Adjusted EBITDA (non-GAAP) | $11.7m | $9.7m | $34.3m | $24.6m |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $8.8m | $21.2m |
Q3 revenue grew 26% year over year: SaaS and license revenue increased 23%, principally from subscriber growth, while hardware and other revenue rose 30%, including higher camera and cellular-radio-module sales. Net income declined 13% despite revenue growth, as operating expenses rose. Q3 operating margin was approximately 4.2% versus 7.1%; total cost of revenue was 38.9% of revenue versus 37.0%. SaaS cost efficiency improved, while hardware cost as a share of hardware revenue increased. Nine-month operating income and net income also declined year over year.
Adjusted EBITDA is a company-defined non-GAAP measure. Its Q3 reconciliation includes $3.2m of acquisition-related expense and $2.9m of litigation expense; the nine-month adjustments include $5.8m and $10.8m, respectively.
Financial position and liquidity
- At September 30, 2016, cash and cash equivalents were $135.1m; total current assets were $183.5m and current liabilities were $37.2m. Working capital excluding deferred revenue was $148.5m.
- Long-term debt was $6.7m. The revolving facility was amended in August: borrowing capacity rose to $75m, with an option to increase to $125m with lender consent; maturity was extended to November 2018. The company reported $43m available under the facility at September 30 and said it expected to draw a further $55–65m for the proposed acquisition. The facility is secured by substantially all assets, including intellectual property; the company reported covenant compliance.
- Nine-month investing cash outflow was $5.5m and financing cash inflow was $3.4m. Operating cash flow fell to $8.8m from $21.2m, mainly reflecting working-capital movements, including increases in receivables and inventory.
Material changes, outlook and risks
- Acquisition: The proposed $140m purchase of Icontrol’s Connect and Piper businesses remained pending. FTC second-request review was underway, and management said closing would likely be delayed until Q1 2017. The transaction is also contingent on Comcast’s acquisition of Icontrol. Management expected the deal to contribute to revenue growth and be accretive to non-GAAP EPS for full-year 2017; this is an expectation, not a completed outcome.
- ADT agreement: If the acquisition closes, Alarm.com would conditionally become ADT’s exclusive provider for specified professionally installed residential services for up to five years, subject to performance conditions, exclusions and termination provisions. The Connect business has historically relied substantially on ADT revenue.
- Operating costs: Q3 G&A increased 42%, principally due to acquisition-related costs and higher legal expense. Nine-month G&A increased 62%, including increased intellectual-property litigation and acquisition expenses. Management expected 2016 G&A to rise and anticipated continued investment in sales, marketing and R&D.
- Cash outlook: Management believed cash and expected operating cash flows would cover anticipated operating needs for at least 12 months. It expected roughly $3.3m of capital expenditures in the final three months of 2016, with approximately $2.8m of the anticipated headquarters-improvement spending funded by tenant allowances.
- Concentration and technology risks: The ten largest service providers generated 60.3% of Q3 revenue. Approximately 89,000 end-user accounts relied on AT&T’s 2G network, scheduled to shut down December 31, 2016; accounts not upgraded could lose communication with Alarm.com.
- Legal contingencies: The Vivint patent case was stayed pending patent review; Alarm.com said a loss was not probable or reasonably estimable. A TCPA class action and a wrongful-death case also remained pending; the latter seeks $7m in compensatory and $350,000 in punitive damages. Management said losses were not currently probable or reasonably estimable.
- Other items: The company reported no recurring-dividend plans. It had self-certified under the EU-U.S. Privacy Shield in September 2016 and identified continuing privacy and data-transfer regulatory uncertainty as a risk.
Important facts for investors to verify
- Reconcile the stated $43m of facility availability with the amended $75m capacity and management’s anticipated $55–65m acquisition draw; confirm actual financing terms and post-close leverage.
- Track FTC review, the Comcast-Icontrol transaction condition, acquisition closing, final purchase terms and any changes to the ADT agreement.
- Assess whether subscriber growth and recurring-revenue retention can offset slower profit growth, higher expenses and weaker operating cash flow.
- Monitor service-provider and hardware-supplier concentration, including the top-ten provider revenue share and the AT&T 2G account migration.
- Follow developments in the Vivint, TCPA and wrongful-death matters, as well as acquisition-related liabilities and expenses.
- Evaluate reported GAAP results alongside Adjusted EBITDA, noting the material legal and acquisition costs excluded from that non-GAAP measure.