ServiceNow, Inc. — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022; comparative periods ended September 30, 2021. Amounts are in U.S. dollars. ServiceNow sells subscription software and services that digitize enterprise workflows through its Now Platform.
Financial performance and position
| Metric | Q3 2022 | Q3 2021 | First nine months 2022 | First nine months 2021 |
|---|---|---|---|---|
| Total revenue | $1.831B | $1.512B | $5.305B | $4.282B |
| Subscription revenue | $1.742B | $1.427B | $5.031B | $4.050B |
| Gross profit | $1.431B | $1.162B | $4.147B | $3.303B |
| Gross margin | 78% | 77% | 78% | 77% |
| Operating income | $91M | $74M | $200M | $222M |
| Net income | $80M | $63M | $175M | $204M |
| Diluted EPS | $0.39 | $0.31 | $0.86 | $1.00 |
Q3 revenue grew 21% year over year, led by subscription revenue growth of 22%; nine-month revenue rose 24%. Q3 operating income increased, while nine-month operating income and net income declined despite revenue growth, as operating expenses rose faster than gross profit. Nine-month operating expenses were $3.947B, up from $3.081B. Gross margin improved, but the professional services and other business reported gross losses.
Cash flow and liquidity: For the first nine months, operating cash flow was $1.561B, versus $1.347B; capital expenditures were $406M, versus $292M. Company-defined free cash flow was $1.155B, up 9% from $1.055B. Investing activities used $1.709B and financing activities used $269M. Cash, cash equivalents and restricted cash fell $478M to $1.254B. At September 30, cash and investments totaled approximately $5.473B ($1.248B cash, $2.708B short-term investments and $1.517B long-term investments).
Debt: $1.485B of net long-term debt remained, consisting of 1.40% notes due in 2030. The $94M principal remaining on the 2022 convertible notes was settled at maturity in June 2022.
Contract metrics: Remaining performance obligations were $11.4B, up 17% year over year; 52% was expected to be recognized over the following 12 months. Current RPO grew 18%. Customers with ACV above $1M increased to 1,530 from 1,252. Renewal rate was 98%, unchanged year over year.
Material changes and notable items
- Operating expenses increased across sales and marketing, R&D, and G&A, principally due to higher headcount and personnel costs, including stock-based compensation. Nine-month stock-based compensation was approximately $1.038B, or 20% of revenue, versus $829M, or 19%.
- Foreign exchange was a significant revenue headwind: at prior-year exchange rates, reported subscription revenue would have been $92M higher in Q3 and $193M higher for the nine-month period. Management expected further dollar-strength headwind in Q4 2022.
- Other income, net rose to $19M in Q3 and $36M for nine months, primarily from increased investment income. The nine-month tax provision rose to $41M from $13M; the effective tax rate was 19% versus 6%.
- The estimated useful life of data-center equipment was extended from three to four years effective in 2022. This reduced depreciation expense by $20M in Q3 and $60M for nine months, increasing net income by $18M and $54M, respectively.
- ServiceNow acquired Hitch Works for $57M in cash and invested $100M in Celonis. It also entered a non-cancelable $500M, five-year Microsoft cloud-services agreement.
Outlook, risks and contingencies
- Management expected 2022 subscription revenue to increase in absolute dollars and remain relatively flat as a share of revenue; professional services revenue was also expected to increase in dollars. The filing provides no specific numerical revenue-growth guidance.
- Management expected subscription gross margin to increase slightly for 2022, while professional-services gross loss percentage was expected to worsen. Operating expenses were expected to rise in dollars but remain relatively flat as a percentage of revenue. Forecast assumptions used the September 2022 30-day average foreign-exchange rates.
- Management said operating cash flows, cash and investments should meet liquidity needs for at least 12 months. It also described inflation, macroeconomic uncertainty, customer spending delays, foreign exchange, the Russia-Ukraine conflict and cybersecurity threats as risks.
- One U.S. federal channel partner/systems integrator represented 22% of accounts receivable at September 30; no customer individually exceeded 10% of revenue in the periods shown. Management said Russian customer revenue was immaterial.
- The company reported no pending legal proceedings expected to have a material adverse effect. It had $29M of unrecognized tax benefits recorded as liabilities and noted that tax years 2004–2021 remained open to examination in most jurisdictions.
Important facts for investors to verify
- How much reported and future subscription growth is affected by foreign-exchange movements, and whether RPO growth converts into revenue as expected.
- Whether expense growth, particularly stock-based compensation, continues to outpace revenue growth and pressure operating margins.
- The sustainability of operating cash flow and free cash flow after capital spending, investment purchases and working-capital changes.
- The effect of the data-center useful-life estimate change on reported earnings, and the potential impact of unrealized investment losses and changing interest rates.
- Whether the large receivable concentration with the federal channel partner, cybersecurity exposure and new cloud-services commitment create material credit, operating or cost risks.