Open Text Corporation — Q1 FY2011 Form 10-Q Summary
Business context and reporting period
Open Text provides enterprise content management software, support, consulting, implementation, training and related services. The filing covers the three months ended September 30, 2010, with comparisons to the three months ended September 30, 2009. Results are presented in U.S. dollars under U.S. GAAP and are unaudited. The company employed approximately 3,800 people worldwide.
Financial performance and liquidity
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Total revenue | $217.4 million | $211.4 million | 2.8% increase |
| License revenue | $42.6 million | $47.3 million | 9.9% decrease |
| Customer support revenue | $129.8 million | $123.6 million | 4.9% increase |
| Service and other revenue | $45.0 million | $40.4 million | 11.3% increase |
| Gross profit | $144.0 million | $139.9 million | 2.9% increase |
| Income from operations | $32.2 million | $4.8 million | Increase of $27.4 million |
| Net income | $21.7 million | $1.7 million | Increase of $19.9 million |
| Diluted EPS | $0.37 | $0.03 | Increase of $0.34 |
| Operating cash flow | $48.9 million | $4.5 million | Increase of $44.4 million |
Gross margin was approximately 66.2% in both periods. Operating margin improved to approximately 14.8% from 2.3%, primarily because special charges declined to $3.2 million from $18.6 million. Net margin improved to approximately 10.0% from 0.8%.
- Cash and cash equivalents increased to $384.7 million at September 30, 2010 from $326.2 million at June 30, 2010.
- Total current assets were $557.9 million versus current liabilities of $398.2 million, implying a current ratio of approximately 1.4x.
- Total debt was $299.7 million, consisting principally of a $287.3 million term loan and a $12.4 million mortgage. The company had not drawn on its $75.0 million revolving facility.
- Shareholders’ equity was $923.6 million, compared with $887.9 million at June 30, 2010.
- Investing cash outflows were $9.0 million, including $6.9 million of capital expenditures and $1.4 million of acquisition-related payments. Financing cash inflows were $2.8 million.
Material changes versus the prior comparable period
- Revenue growth was driven by customer support and services, while license revenue declined, particularly in Europe. North American revenue increased $10.3 million, while European revenue decreased $10.2 million.
- Customer support gross margin increased to 85.1% from 83.1%, partly because related headcount declined by 69 employees.
- Service and other gross margin increased to 22.0% from 17.7%.
- Sales and marketing expense declined $6.5 million, and general and administrative expense declined $1.4 million. Sales and marketing headcount declined by 75 employees year over year.
- Operating cash flow benefited from higher net income, stronger accounts receivable collections, income-tax-related changes and lower noncash charges. The comparison also reflects prior-year acquisition spending and investment maturities.
- No acquisitions were completed during the quarter. A purchase price adjustment for the May 2010 Burntsand acquisition resulted in negative goodwill of approximately $1.7 million and retroactive adjustments to certain June 30, 2010 balance sheet and retained earnings amounts.
Outlook, commentary, risks and unusual items
- Management described the ECM market as generally stable and expects recurring customer support revenue, which represented 59.7% of quarterly revenue, to remain important. Approximately half of revenue came from outside North America.
- For fiscal 2011, management expected research and development expense of 14%–16% of revenue, sales and marketing expense of 21%–23%, and general and administrative expense of 8%–10%. The filing does not provide a clear revenue or earnings-per-share forecast.
- The fiscal 2010 restructuring plan generated $3.2 million of charges in the quarter. Total plan costs were expected to be approximately $32 million–$40 million; $40.2 million had been recorded through the filing date. Remaining restructuring liabilities were $8.0 million at September 30, 2010.
- The term loan bears interest at LIBOR plus 2.25%, matures in October 2013, and was subject to leverage and interest-coverage covenants. The company stated that it was in compliance with all covenants.
- A 100-basis-point adverse change in LIBOR would increase annual interest expense by approximately $2.9 million, based on the reported term-loan balance.
- Approximately 61% of cash was held in currencies other than the U.S. dollar. The company uses foreign-currency forward contracts; the September 30, 2010 notional amount was $92.4 million and fair value was $2.2 million.
- Contractual obligations totaled $437.8 million, including $321.2 million of debt obligations, $113.1 million of operating leases and $3.5 million of purchase obligations.
- Income-tax examinations were open in Canada, Germany, the United States, France and Spain. Management believed adequate provisions had been recorded, but future settlements remain uncertain.
- On October 27, 2010, after quarter-end, Open Text announced the acquisition of StreamServe Inc. for expected consideration of approximately $71.0 million, subject to customary adjustments.
- Management stated that litigation, guarantees and indemnities were not expected to have a material adverse effect, although maximum potential payments under certain guarantees were not determinable.
- Disclosure controls and procedures were deemed effective, with no material changes in internal control over financial reporting.
Most important facts for investors to verify
- Whether the decline in license revenue, especially in Europe, persists despite growth in support and services.
- The sustainability of the improved operating margin after restructuring charges normalize.
- Cash conversion and working-capital movements, including the unusually large improvement in operating cash flow.
- Debt refinancing or repayment requirements, including the mortgage maturity in January 2011 and the term loan maturity in October 2013.
- Actual fiscal 2011 restructuring costs and remaining workforce and facility obligations.
- The purchase accounting, financing and integration effects of the subsequent StreamServe acquisition.
- Exposure to foreign exchange, floating interest rates, tax examinations and acquisition-related contingencies.