Upwork, Inc. — Q3 2019 Form 10-Q
Business context and period. Upwork operates an online talent marketplace and managed-services business. This unaudited filing covers the three and nine months ended September 30, 2019, compared with the corresponding 2018 periods. Unless otherwise noted, amounts are in U.S. dollars.
Financial and operating performance
| Metric | Q3 2019 | Q3 2018 | First nine months 2019 | First nine months 2018 |
|---|---|---|---|---|
| Revenue | $78.8 million | $64.1 million | $222.0 million | $186.0 million |
| Gross profit | $56.3 million | $43.6 million | $156.8 million | $125.4 million |
| Gross margin | 71% | 68% | 71% | 67% |
| Operating loss | $3.0 million | $3.3 million | $10.3 million | $9.0 million |
| Net loss | $2.8 million | $7.3 million | $9.6 million | $14.5 million |
| Adjusted EBITDA (non-GAAP) | $2.7 million | $(0.1) million | $5.5 million | $0.2 million |
| Operating cash flow | Not separately stated for the quarter | Not separately stated for the quarter | $2.0 million | $(8.2) million |
- Q3 revenue grew 23% year over year; nine-month revenue grew 19%. Marketplace revenue, about 90% of Q3 revenue, increased 25% in the quarter and 20% year to date. Managed-services revenue increased 10% and 11%, respectively.
- Q3 gross margin rose three percentage points; nine-month gross margin rose four points. Management cited revenue growth and lower relative cost growth. Operating expenses nevertheless increased: sales and marketing rose 34% in Q3 and 28% year to date; general and administrative rose 41% and 36%.
- Q3 net loss narrowed year over year, while operating loss was broadly similar. Year-to-date net loss narrowed, though operating loss widened. Other income of $0.5 million in Q3 and $1.8 million year to date contrasted with prior-year other expense, including warrant revaluation costs that did not recur after the IPO.
- GSV was $537.3 million in Q3, up 20%; nine-month GSV was $1.543 billion, up 20%. Core clients increased 19% year over year to 120,500. Client spend retention was 104%, versus 108% a year earlier.
Liquidity, debt, and cash flows
- At September 30, 2019, cash and cash equivalents were $71.2 million, down from $129.1 million at year-end 2018; marketable securities were $60.4 million, newly held in 2019. Together these totaled $131.6 million, excluding escrow funds.
- Funds held in escrow, including funds in transit, were $114.6 million, with an equal escrow payable. These balances are user funds, not freely available operating liquidity.
- Total debt carrying value was $20.2 million, including $7.6 million current and $12.6 million noncurrent, down from $23.9 million at year-end. The company had no revolving-credit borrowings outstanding at quarter-end; it drew and repaid $25 million twice during 2019 to address escrow-funding timing. The facility includes a $25 million revolving line, subject to borrowing conditions, and the company reported covenant compliance.
- For the first nine months, cash declined $58.0 million. Investing activities used $73.7 million, primarily reflecting purchases of marketable securities, property and equipment, and platform development, partly offset by security sales. Financing activities provided $13.8 million, including equity-plan proceeds and net debt repayments.
- Management said existing cash, marketable securities, operating cash flow when generated, and available borrowing capacity should cover working-capital needs for at least 12 months. It noted that additional financing could be needed if those sources prove insufficient.
Outlook, commentary, and notable matters
- Management expected marketplace revenue growth to be lower in Q4 2019 than in Q3; relatively higher in the first half of 2020 versus the first half of 2019; and relatively weaker in the second half of 2020 versus the second half of 2019. It expected gross-margin improvement to continue through 2020, but at a slower rate than in 2019. These are directional statements, not formal numerical guidance.
- Management expects continued investment in research and development, enterprise sales, marketing, and public-company infrastructure. Hosting costs may temporarily rise during the planned AWS data-center migration in the first half of 2020, which management expects ultimately to lower hosting costs.
- Retention eased from 108% to 104%. Management attributed the decline partly to U.S. clients engaging only U.S. freelancers, a cohort with higher initial project budgets and rates but lower observed retention, and expected retention to move closer to pre-platform-consolidation levels of approximately 100%.
- The company expects to adopt ASC 606 in Q4 2019 using the modified retrospective method. It anticipated a material cumulative adoption effect on accumulated deficit and deferred revenue, but no material impact on 2019 operating-statement results; aspects of the adoption assessment remained under review. It also expected lease-accounting adoption to materially affect assets, liabilities, and disclosures.
- Disclosure controls were deemed ineffective as of September 30 because of a previously reported material weakness in financial reporting controls. Remediation—including added accounting staff and period-end controls—was ongoing and had not yet been validated over a sustained period.
- California’s AB 5 worker-classification law was scheduled to take effect January 1, 2020; the filing describes uncertainty about its application and potential consequences. Other prominent risks include competition, user retention and spending, fraud and payment processing, privacy and cybersecurity, international regulation, and continued losses.
- No material pending legal proceedings were reported. The company had $39.9 million of operating-lease commitments and $20.2 million of debt principal in its contractual-obligations schedule. One client accounted for more than 10% of revenue in each of the nine months ended September 30, 2019 and the prior two years; the filing does not identify that client in the supplied text.
Important facts for investors to verify
- Whether core-client and GSV growth can persist as client spend retention trends toward management’s indicated level near 100%.
- Whether marketplace growth and margin improvement offset rising sales, marketing, research, and corporate costs, and how adjusted EBITDA reconciles to GAAP results.
- How operating liquidity develops after separating usable cash and marketable securities from escrow funds, and whether debt covenants or borrowing-base limits constrain access to the revolving line.
- The realized effects of ASC 606, lease accounting, AB 5, and the planned AWS migration, including any changes to reported revenue, balance-sheet obligations, or costs.
- Whether the company remediates the material weakness and establishes effective disclosure and financial-reporting controls before required auditor attestation.
- The identity and ongoing revenue exposure to the customer representing more than 10% of revenue, and the impact of stock-based compensation and potential share dilution.