Guidewire Software, Inc. — Fiscal 2016 Form 10-K
Reporting period: Fiscal year ended July 31, 2016. The filing is an annual report, not a standalone fourth-quarter filing; selected Q4 results are included below. Guidewire provides software for property and casualty insurers, including core transaction processing, data and analytics, and digital engagement. At year-end, it had 260 customers in 31 countries and 1,536 employees.
Financial performance and position
| Metric | FY2016 | FY2015 | Change |
|---|---|---|---|
| Total revenue | $424.4 million | $380.5 million | +12% |
| License revenue | $219.8 million | $179.2 million | +23% |
| Maintenance revenue | $59.9 million | $50.0 million | +20% |
| Services revenue | $144.8 million | $151.3 million | -4% |
| Gross profit | $272.6 million | $233.4 million | +17% |
| Gross margin | 64% | 61% | +3 points |
| Operating income | $16.4 million | $16.5 million | Flat |
| Net income | $15.0 million | $9.9 million | +51% |
| Diluted EPS | $0.20 | $0.14 | +43% |
| Operating cash flow | $99.9 million | $63.7 million | +57% |
Margins and expenses: License gross margin was 97%, maintenance gross margin was 81%, and services gross margin declined to 8% from 12%. Research and development expense increased 20% to $112.5 million, sales and marketing expense increased 13% to $92.8 million, and general and administrative expense increased 23% to $50.9 million. Stock-based compensation charged to income was $66.1 million, compared with $51.4 million in FY2015. Adjusted EBITDA, a non-GAAP measure, was $91.4 million versus $75.3 million.
Liquidity and debt: Cash and cash equivalents were $223.6 million, while total cash, cash equivalents and investments were $735.8 million. Working capital was $588.6 million and total stockholders’ equity was $783.9 million. The balance sheet shows no debt borrowings. Contractual obligations totaled $29.5 million, principally operating leases. Management believes existing liquidity is sufficient to fund operations for at least the next 12 months.
Q4 FY2016: Revenue was $141.2 million, gross profit was $98.4 million, operating income was $23.5 million, and net income was $16.1 million, or $0.22 diluted EPS. Q4 benefited from the company’s normal year-end seasonality.
Material changes versus the prior comparable period
- Growth shifted toward higher-margin license and maintenance revenue: license revenue increased $40.6 million, while services revenue decreased $6.6 million.
- Four-quarter recurring revenue increased to $268.4 million from $219.4 million, including term-license revenue of $208.4 million and maintenance revenue of $59.9 million.
- Gross margin improved primarily because license and maintenance revenue represented a larger share of total revenue, partially offset by weaker services margins.
- Operating income was essentially unchanged because operating expenses increased 18%, principally from headcount, product development, sales expansion, and stock-based compensation.
- Operating cash flow increased $36.2 million, supported by stronger collections and a $16.1 million increase in deferred revenue.
- Investing cash flow was negative $101.3 million, reflecting $79.0 million of net marketable-securities purchases, $39.5 million for the EagleEye acquisition, and $7.1 million of capital expenditures.
- In March 2016, Guidewire acquired EagleEye Analytics for approximately $40.2 million of purchase consideration, adding predictive analytics. The acquisition was not material to FY2016 operating results and added $20.9 million of goodwill.
Outlook, commentary, risks, and unusual items
- Management expects continued investment in research and development, international expansion, sales and marketing, cloud delivery, and integration of acquired products.
- Management expects FY2017 services margins to decline significantly because of acquisitions, substantial hiring and training, and a large deferred-revenue implementation. The filing expects this pressure to be limited to FY2017, with potential improvement in FY2018 as deferred revenue is recognized and newer products gain traction.
- A large FY2016 arrangement involving a cloud-delivered, digitally rich InsurancePlatform implementation resulted in approximately $5.1 million of deferred services billings. License and services revenue is expected to be recognized after implementation, projected for the second half of FY2017, with subsequent ratable recognition.
- In August 2016, after year-end, Guidewire acquired FirstBest Systems for approximately $34 million in cash. The acquisition added underwriting management capabilities and was expected to be reflected beginning in Q1 FY2017.
- Guidewire plans to adopt the new revenue-recognition standard on August 1, 2018 using the cumulative-effect method. Contracting practices were being revised, including shorter initial non-refundable license terms; future reported revenue and earnings volatility could change without corresponding changes in cash flows.
- Key risks include lengthy and unpredictable sales and implementation cycles, customer concentration, competition, reliance on InsuranceSuite, renewal and expansion rates, cloud-transition execution, cybersecurity and privacy regulation, foreign-exchange movements, acquisitions, and the low-margin services business.
- The ten largest customers represented 27% of FY2016 revenue. International revenue represented 35% of total revenue. The company identifies seasonal peaks in the second and fourth fiscal quarters.
- Unrecognized tax benefits were $7.7 million, including $3.7 million that would affect the effective tax rate if recognized. The company had no material pending legal proceeding and no material indemnification claims outstanding.
Investor verification points
- Verify the sustainability of license and recurring-revenue growth as the business invests in cloud offerings and newer acquired products.
- Assess whether FY2017 services-margin pressure and deferred implementation revenue develop as management projected.
- Review customer renewals, expansions, concentration, and the impact of large customer implementations on quarterly results.
- Evaluate the cash-flow effects and integration progress of the EagleEye and post-year-end FirstBest acquisitions.
- Monitor adoption of the new revenue-recognition standard and changes to license contracting terms.
- Consider the $66.1 million stock-based compensation expense and its effect on GAAP profitability and dilution.
- Confirm liquidity after the FirstBest acquisition, contractual commitments, foreign cash restrictions, and any future acquisitions.