ServiceNow, Inc. — Q2 2021 Form 10-Q
Reporting period: Three and six months ended June 30, 2021; amounts in U.S. dollars unless stated otherwise. Comparisons are with the corresponding 2020 periods.
Business context and performance
ServiceNow provides cloud-based digital workflow software, primarily through annual subscriptions. Subscription revenue represented 94% of Q2 revenue. The company reported strong revenue growth, while higher operating costs reduced operating income versus the prior-year quarter.
| Metric | Q2 2021 | Q2 2020 | Six months 2021 | Six months 2020 |
|---|---|---|---|---|
| Total revenue | $1.409B (+32%) | $1.071B | $2.769B (+31%) | $2.117B |
| Subscription revenue | $1.330B (+31%) | $1.015B | $2.623B (+30%) | $2.010B |
| Gross profit / margin | $1.080B / 77% | $838M / 78% | $2.141B / 77% | $1.661B / 78% |
| Operating income / margin | $51M / 4% | $63M / 6% | $148M / 5% | $112M / 5% |
| Net income | $59M | $41M | $141M | $89M |
| Diluted EPS | $0.29 | $0.20 | $0.70 | $0.44 |
Q2 subscription gross margin was 81%, versus 83% a year earlier. Q2 operating income declined despite revenue growth, as operating expenses rose 33% to $1.029B. Stock-based compensation was $282M in Q2 and $538M for the first half, approximately 20% and 19% of revenue, respectively.
Cash flow, liquidity and debt
- First-half operating cash flow was $1.027B, up from $860M. Capital expenditures were $198M; management-defined free cash flow was $829M, up 24% from $666M.
- Cash and cash equivalents were $1.362B; short-term investments were $1.622B and long-term investments $1.350B at June 30, 2021. Cash plus short-term investments totaled approximately $2.984B.
- Total debt carrying value was $1.582B: $99M current 2022 Notes and $1.483B long-term 2030 Notes. The 2030 Notes have a 1.40% coupon and mature in 2030. The company expects to settle converted 2022 Notes’ principal in cash; $65M principal was settled in the first half, with approximately $8M more expected in Q3 based on requests received through the filing date.
- Cash, cash equivalents and restricted cash fell $308M in the first half, largely reflecting investing and financing outflows. Net cash used in investing was $1.051B, including $738M for business combinations, net of cash acquired; financing used $273M.
Changes, outlook and notable items
- Q2 revenue growth was led by digital workflow products (+31%) and ITOM products (+29%). Revenue outside North America was 37% of Q2 revenue, compared with 34% in Q2 2020.
- Remaining performance obligations were $9.5B at June 30; approximately 50% was expected to be recognized over the next 12 months. The company had 1,201 customers with annual contract value above $1M, up from 964 a year earlier. Renewal rate was 97% in both comparable periods.
- Management expected 2021 subscription revenue to increase in absolute dollars, with its share of revenue relatively flat. It expected subscription gross margin to decline slightly year over year, and professional-services margin to improve. Expenses were generally expected to increase in dollars; no specific full-year revenue or earnings target is provided in the filing text.
- Acquisitions included Element AI, LightStep and Intellibot. Goodwill increased from $241M at year-end 2020 to $793M at June 30, primarily from $551M of acquired goodwill. Purchase price allocations remained preliminary for certain acquisitions.
- Q2 income tax benefit was $9M versus a $21M provision in Q2 2020; the 2021 benefit included acquisition-related valuation allowance release and other tax effects. Management warned that its effective tax rate may fluctuate significantly.
- Management said available cash, investments and expected operating cash flows should meet liquidity needs for at least 12 months. COVID-19 uncertainty remained a risk, including potential customer spending reductions, delayed collections, longer sales cycles, operational disruption and cybersecurity exposure. Privacy, data residency and cross-border transfer requirements, as well as cyberattacks, were also identified as material risks.
- The company reported no pending legal proceedings expected to have a material adverse effect and said disclosure controls were effective; no material change in internal control over financial reporting was identified.
Important facts for investors to verify
- Whether subscription growth and the $9.5B RPO translate into recognized revenue as expected, considering contract timing, duration, foreign exchange and seasonality.
- Whether margins stabilize as data-center, hiring and customer-support costs rise, and how stock-based compensation affects reported profitability and dilution.
- Cash requirements for 2022 Notes conversions and the maturity profile of debt, including the stated cash-settlement intention.
- Final acquisition valuations, integration outcomes and the contribution of acquired businesses, which were not material to reported results through June 30.
- Potential further COVID-19 effects, regulatory costs related to data localization and privacy, cybersecurity incidents, and tax-rate volatility.