Tucows Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; comparative period is Q1 2019. Amounts are in U.S. dollars. Tucows operates Network Access Services, including mobile and fiber internet, and Domain Services, including wholesale and retail domain registration and related services.
Financial performance
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Revenue | $84.0 million | $79.0 million | Up 6% |
| Gross profit | $25.2 million | $22.7 million | Up 11% |
| Gross margin | 30.0% | 28.7% | Up 1.3 percentage points |
| Operating income | $5.2 million | $5.0 million | Up 3% |
| Net income | $2.8 million | $2.8 million | Up 1% |
| Diluted EPS | $0.26 | $0.26 | Unchanged |
| Operating cash flow | $14.1 million | $9.0 million | Up 57% |
| Capital expenditures | $9.9 million | $10.4 million | Down $0.5 million |
| Adjusted EBITDA (non-GAAP) | $12.7 million | $9.4 million | Up 35% |
Operating margin was approximately 6.2%, compared with 6.4% a year earlier. Net margin was approximately 3.4%, versus 3.5%. Operating cash flow less capital expenditures was approximately $4.1 million, compared with a $1.4 million outflow in Q1 2019; this is a simple calculation, not a company-reported non-GAAP measure.
Revenue growth reflected a full quarter of Ascio revenue, Cedar acquisition and fiber expansion. Domain Services revenue was $59.5 million, up 7%; Network Access Services revenue was $24.5 million, up 5%. Mobile revenue fell 3% to $20.1 million, while other Network Access revenue rose 79% to $4.3 million. Wholesale domain revenue grew 8% to $46.0 million, but included Ascio; eNom registration erosion continued.
Balance sheet, debt and liquidity
- Cash and cash equivalents were $12.4 million at March 31, down from $20.4 million at December 31, 2019. Total assets were $437.8 million and stockholders’ equity was $95.4 million.
- Outstanding credit-facility borrowings were $114.4 million; the balance-sheet carrying amount, net of unamortized costs, was $113.5 million. The facility is secured, has no scheduled principal repayments before maturity in June 2023, and includes a $60 million accordion within total availability of up to $240 million.
- Management reported compliance with debt covenants and believes operating cash flow will be adequate for working capital, capital expenditures and loan repayments for at least 12 months. It also said there was no known material uncertainty regarding covenant compliance or repayment terms at the time of filing.
- Cash declined primarily due to $9.9 million of property and equipment investment, $8.8 million of Cedar acquisition cash consideration and $3.1 million of share repurchases, partly offset by operating cash flow.
Material changes, outlook and risks
- Cedar acquisition: Closed January 1, 2020, for estimated net consideration of $13.9 million, including cash, $2.0 million of restricted shares and contingent consideration valued at $3.1 million. Cedar contributed $1.2 million of Q1 revenue and a $0.3 million net loss. Purchase accounting remained preliminary.
- COVID-19: Management said Q1 impact was limited because the outbreak affected results late in the quarter, but anticipated greater impact in Q2 if the pandemic persisted. Travel restrictions drove Roam Mobility new revenue toward zero by late March; management expected little to none of the $1.0 million of Q2 Roam revenue forecast before the pandemic. Ting Mobile saw reduced data use and increased churn among low-margin business accounts. Fiber installations and construction were delayed, slowing new customer growth; management had begun developing lower-contact installations. Domain Services had not experienced material operational or financial impacts at the time of filing.
- Network and customers: Ting Mobile had 272,000 subscribers and 154,000 accounts under management, versus 284,000 and 160,000, respectively, a year earlier. Domain names under management declined to 23.9 million from 25.2 million, primarily due to non-core eNom customers. Ting Internet accounts increased to 12,000 from 8,000, and serviceable addresses to 45,000 from 32,000.
- Investment and portfolio: Management expected fiber-network capital expenditures to continue increasing in 2020. Following the Q4 2019 disposal of most of its domain portfolio, the company expected portfolio revenue to materially decline in 2020 and thereafter.
- Other risks and unusual items: The T-Mobile/Sprint merger closed April 1, 2020; management cited potential effects on future network access and negotiating leverage. Tucows launched mobile service with Verizon on February 17. Foreign-exchange contracts had a net fair-value liability of $1.2 million at quarter-end, and a hypothetical 10% adverse currency move was estimated to reduce quarterly net income by about $1.0 million before hedging effects. A 1% increase in the credit-facility interest rate would increase annual interest by approximately $1.1 million at the quarter-end balance.
- Management cited competitive pricing, subscriber churn, fiber-build recovery, acquisition integration, foreign exchange, debt service and pandemic uncertainty as risks. Ordinary-course legal matters were not expected by management to have a material adverse effect. The company was awaiting final IRS response on an accounting-method change; management believed acceptance was more likely than not and recorded no additional tax uncertainty or related interest and penalties.
Key facts for investors to verify
- Whether Cedar’s preliminary purchase-price allocation, contingent consideration and post-acquisition performance change as final valuations are completed.
- Whether mobile churn and usage, Roam Mobility revenue, and fiber installation growth recover or worsen as pandemic conditions evolve.
- Whether domain registration declines at eNom persist, and how much reported growth depends on acquired revenue versus organic performance.
- Whether planned fiber investment can be funded while maintaining liquidity, covenant compliance and debt-service capacity.
- Whether the IRS accepts the filed accounting-method change and whether foreign-exchange exposure or credit-facility costs materially change.