ServiceNow, Inc. — FY 2017 Form 10-K
Reporting period: Year ended December 31, 2017; filed February 28, 2018. The filing also reports fourth-quarter results. Amounts below are in U.S. dollars.
Business context
ServiceNow provides cloud-based enterprise workflow and service-management software, primarily through subscriptions. Its offerings span IT, customer service, HR and security workflows. It reported approximately 4,400 enterprise customers, including more than 40% of the Global 2000, and operates as one reporting segment. Subscription sales are generally billed annually in advance, while subscription revenue is recognized over the contract term.
Financial performance and liquidity
| Metric | FY 2017 | FY 2016 |
|---|---|---|
| Total revenue | $1.933 billion | $1.391 billion |
| Subscription revenue | $1.740 billion | $1.222 billion |
| Gross profit / margin | $1.433 billion / 74% | $992 million / 71% |
| Operating loss | $101 million | $423 million |
| Net loss | $149 million | $452 million |
| Operating cash flow | $643 million | $160 million |
| Free cash flow (non-GAAP) | $492 million | $54 million |
Fourth-quarter 2017 revenue was $546 million, up from $386 million in Q4 2016; subscription revenue was $497 million versus $345 million. Q4 net loss was $28 million versus $33 million.
FY 2017 subscription gross margin was 82%, up from 81%; professional services and other gross margin was 5%, up from 3%. Stock-based compensation was $394 million, or 20% of revenue, compared with $318 million, or 23%, in 2016. Deferred revenue was $1.320 billion at year-end, and backlog—future unearned amounts not included in deferred revenue—was approximately $2.6 billion, versus $1.9 billion a year earlier.
Cash and cash equivalents plus investments totaled approximately $2.171 billion at year-end, including $1.8 billion in cash and short-term investments and $391 million in long-term investments. Total assets were $3.398 billion; stockholders’ equity was $584 million. Convertible notes had $1.357 billion in principal outstanding ($575 million due November 2018 and $782.5 million due June 2022); their combined net carrying amount was $1.173 billion. Management expected available cash and operating cash generation to cover liquidity needs for at least the next 12 months.
Material changes and unusual items
- Revenue grew 39% year over year, led by subscription growth of 42%; professional services and other revenue increased 14%. ITOM subscription revenue rose 89% to $213 million.
- Operating and net losses narrowed substantially, primarily because FY 2016 included a $270 million charge for HPE and BMC legal settlements. The settlements were paid in 2016; the related cash payment was $267.5 million.
- Operating cash flow improved to $643 million from $160 million, while investing activities used $884 million, reflecting increased investment purchases, capital spending and acquisitions. Financing provided $539 million, mainly from the 2022 notes issuance.
- Customer metrics strengthened: customers with ACV above $1 million increased to 500 from 350; Global 2000 customers rose to 840 from 737. Renewal rate was 97%, versus 98% in 2016.
Outlook, accounting changes and risks
Management expected subscription revenue to grow in 2018 and subscription gross margin to increase slightly; professional services and other revenue was expected to remain roughly flat under the new accounting standard. Sales and marketing, R&D and G&A expenses were expected to rise in absolute dollars. The company expected to continue reporting a GAAP loss. Management also warned that its revenue growth rate was expected to decline over time.
Topic 606 became effective January 1, 2018, with full retrospective adoption. It changes revenue timing for certain on-premises offerings, commission-cost accounting and Knowledge event classification. The filing’s illustrative 2017 restatement shows revenue of $1.918 billion and net loss of $117 million, compared with reported revenue of $1.933 billion and net loss of $149 million. These figures are accounting-basis adjustments, not a change to reported FY 2017 results.
Key risks include intensifying competition and pricing pressure; cybersecurity or service interruptions; execution of product development and customer implementations; international, foreign-exchange and privacy regulation exposure; and continued GAAP losses and high stock-based compensation. The 2018 notes were convertible at holders’ option through March 31, 2018, and the company expected cash settlements of $37.3 million of principal in Q1 2018 and $7.3 million in Q2, subject to additional conversion requests. The Tax Act accounting was provisional and under review. Management reported effective disclosure controls and internal control over financial reporting; the auditor issued unqualified opinions on both.
Important facts for investors to verify
- How Topic 606 restatements affect reported growth, deferred revenue, commissions and future period comparability.
- 2018 note conversions, cash repayments and refinancing or settlement needs, alongside the $782.5 million 2022 maturity.
- Whether operating cash flow and billings growth remain durable; billings rose 37% to $2.315 billion in 2017 and is a non-GAAP measure.
- Progress in converting customer growth, backlog and renewals into recognized subscription revenue and sustainable GAAP profitability.
- Final Tax Act accounting, foreign-exchange exposure, and the effect of continuing investment and stock-based compensation on margins and dilution.