Progress Software Corporation — Q2 FY2016 Form 10-Q
Reporting period: Three and six months ended May 31, 2016. Amounts below are in U.S. dollars; financial figures are in millions unless otherwise noted. Progress sells application development, data connectivity and integration software, with revenue from licenses, maintenance and services. Telerik, acquired in December 2014, is included in the Application Development and Deployment segment.
Financial performance and liquidity
- Revenue: Q2 revenue was $96.1 million, up 8% reported (9% constant currency) year over year. Six-month revenue was $185.6 million, up 9% reported (11% constant currency). Maintenance and services drove growth: Q2 increased 12% to $67.3 million; six-month revenue increased 14% to $132.9 million. License revenue was essentially flat in Q2 at $28.8 million and down 2% for the six months to $52.7 million.
- Segment trends: Q2 OpenEdge revenue declined 7% to $66.9 million, while Data Connectivity and Integration rose 38% to $10.0 million and Application Development and Deployment rose 99% to $19.2 million, largely reflecting Telerik. For the six months, OpenEdge declined 7%, while the other two segments grew 15% and 163%, respectively.
- Profit and margins: Q2 gross profit was $79.9 million, a reported gross margin of 83% versus 82% a year earlier. Operating income was $12.3 million (13% margin), versus an operating loss of $2.7 million. Net income was $7.3 million, or $0.14 diluted EPS, versus $5.8 million, or $0.11. Six-month operating income was $19.0 million (10% margin), versus a $13.9 million loss; net income was $10.5 million, or $0.21 diluted EPS, versus $4.8 million, or $0.09.
- Cash flow: Six-month cash from operations was $49.3 million, down from $57.9 million. Investing used $23.7 million and financing used $60.6 million; cash and cash equivalents decreased $32.6 million to $179.7 million. Operating cash flow was lower mainly because prior-year working-capital improvement was unusually strong, alongside higher tax and compensation-related payments.
- Liquidity and debt: Cash, cash equivalents and short-term investments totaled $229.1 million, down from $241.3 million at November 30, 2015. Current assets were $299.4 million and current liabilities $195.4 million. Term-loan principal was $138.8 million, including $11.3 million due within 12 months; the $150 million revolving facility had no borrowings and $0.5 million of letters of credit. The loan’s stated interest rate was 2.19%; the company reported compliance with its debt covenants.
- Capital allocation and backlog: The company repurchased $60.0 million of shares in the first six months (including $58.5 million reflected in financing cash flows); $154.5 million remained under a $202.8 million authorization at May 31. Revenue backlog was $167.6 million, including $142.2 million of deferred revenue and $25.3 million of multi-year licensing arrangements.
Material changes versus the prior comparable period
- Revenue growth was concentrated in maintenance and services and was partly acquisition-related: Telerik contributed $18.5 million of Q2 revenue and $36.6 million for the six months. The company said the prior-year comparison was affected by acquisition accounting that reduced Telerik’s acquired deferred revenue.
- OpenEdge continued to contract, primarily due to lower license sales to direct enterprise customers and Corticon. Management noted that large OpenEdge enterprise deals are difficult to forecast and may be delayed or reduced.
- Operating results improved substantially, supported by higher revenue, lower sales and marketing and general and administrative expenses, and much lower restructuring and acquisition-related costs. Six-month operating expenses fell to $134.6 million from $150.7 million.
- The six-month effective tax rate was 34%, versus 134% in the prior-year period. The company attributed the difference primarily to the geographic mix of earnings and Telerik-related losses in Bulgaria in the prior year.
Outlook, commentary, risks and unusual items
- Management stated that cash, operating cash generation and available credit should fund operations and foreseeable cash needs for at least the next 12 months. It intended to use the remaining share-repurchase authorization by the end of FY2016. The filing does not provide a numerical revenue or earnings forecast.
- Foreign currency remains a material exposure: approximately 35% of revenue is denominated in foreign currencies, and management said a strong U.S. dollar had reduced reported revenue. The filing also identified Brexit-related currency volatility and potential customer-spending and economic uncertainty as risks.
- Other disclosed risks include uncertain timing of large license deals, dependence on OpenEdge and channel partners, execution of cloud and subscription strategies, competition, product and cybersecurity issues, international operations, and integration or returns from acquisitions.
- Tax correction: The company recorded a $2.7 million out-of-period tax benefit in the interim statements after identifying an error that had overstated FY2015 tax expense. Management said the prior-year error and the out-of-period correction were not material.
- Other matters: The IRS was examining U.S. federal tax returns for FY2013 and FY2014. Management did not believe ordinary-course legal proceedings would materially affect the company. Disclosure controls were judged effective, with no material change in internal control over financial reporting reported for the quarter.
Most important facts for investors to verify
- How much of reported revenue growth and margin improvement is recurring versus attributable to Telerik comparisons and acquisition-accounting effects.
- Whether OpenEdge license demand, especially large direct-enterprise transactions, stabilizes or continues to weaken.
- Progress in cloud and subscription offerings, including renewal trends and any effect on license revenue, cash flow and profitability.
- The impact of currency movements, Brazil’s economic conditions and Brexit-related uncertainty on international revenue and customer spending.
- Cash generation after substantial buybacks, remaining repurchase plans, scheduled term-loan repayments, and the company’s continued compliance with debt covenants.
- The effect of the $2.7 million tax correction and the outcome of the IRS examination of FY2013–FY2014 returns.