VeriSign, Inc. — Q1 2013 Form 10-Q
Business context and period. The filing covers the three months ended March 31, 2013. VeriSign operates domain-name registry services, principally .com and .net, and network intelligence and availability services (NIA). Registry Services generates substantially all revenue. The company reported approximately 123.1 million .com and .net domain names, up 5% year over year.
Financial performance and position
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Revenue | $236.4 million | $205.7 million | +15% |
| Operating income | $133.3 million | $98.9 million | +35% |
| Operating margin | 56% | 48% | +8 percentage points |
| Net income | $84.5 million | $68.0 million | +24% |
| Net margin | 36% | 33% | +3 percentage points |
| Diluted EPS | $0.52 | $0.42 | +24% |
| Operating cash flow | $150.6 million | $110.3 million | +37% |
| Capital expenditures | $17.1 million | $12.9 million | Higher |
Cost of revenue rose 15% to $47.3 million, broadly matching revenue growth. Sales and marketing fell 35% to $18.1 million, while R&D rose 23% to $18.2 million and general and administrative expense fell 16% to $19.6 million. The effective tax rate increased to 26% from 24%. Q1 2012 included $1.9 million of discontinued-operations income; Q1 2013 had none.
Liquidity and debt. Cash and cash equivalents were $78.6 million and marketable securities $1.484 billion at March 31, for combined liquidity of $1.562 billion. Current assets were $1.615 billion and current liabilities $1.706 billion; the reported current-liability balance includes the convertible debentures reclassified as current because holders could convert through June 30, 2013. The company had $1.25 billion principal amount of 3.25% convertible debentures outstanding and $100 million drawn under its credit facility at quarter-end. It issued $750 million of 4.625% senior notes due 2023 on April 16, used $100 million to repay the credit-facility borrowing, and said the facility remains open with $200 million available. About $1.3 billion of cash and marketable securities was held by foreign subsidiaries and intended to be permanently reinvested abroad.
Net cash used in financing was $122.4 million, primarily reflecting $142.9 million of share repurchases. The company repurchased 3.0 million shares for $132.0 million under its buyback program; $843.6 million remained authorized at quarter-end. Cash and cash equivalents declined $52.1 million during the quarter.
Changes, outlook, and key commentary
- Revenue growth was driven mainly by 5% growth in .com and .net names and the effects of prior registry-fee increases. EMEA revenue grew 29%, U.S. 13%, APAC 10%, and Other 14% year over year.
- Management expected revenue to increase in fiscal 2013 versus fiscal 2012, citing continued domain-base growth and a .net registry-fee increase effective July 2013. It expected cost of revenue as a share of revenue to remain consistent; sales and marketing’s share to increase; R&D’s share to remain consistent; and G&A’s share to increase slightly. Interest expense was expected to rise following the April notes issuance.
- Management expected continued active-domain growth in 2013, but cited economic weakness and changes to search-engine algorithms and pay-per-click policies as factors that may constrain registrations and renewals. It did not expect significant revenue, if any, from new gTLDs before 2014; timing and commercial impact remain uncertain.
- The convertible debentures became convertible after the share price exceeded the contractual threshold. Management said it did not expect a material near-term conversion, but could not assure holders would not convert. If cash available proved insufficient, additional financing could be needed; stock settlement could dilute shareholders.
- The April senior-note proceeds beyond the credit-facility repayment were intended for general corporate purposes, including possible share repurchases. Management said existing liquidity, operating cash generation, and potential financing should meet working-capital, capital-expenditure, and debt-service needs for the next 12 months.
Risks, contingencies, and unusual items
- Two disclosed shareholder lawsuits were pending: a derivative case alleging misstatements about executive compensation plans, with dismissal motions under advisement; and a securities class action alleging misleading statements about the .com agreement renewal prospects and revenue guidance. The filing stated that possible losses could not be reasonably estimated and that management did not expect current matters to materially affect financial condition, results, or cash flows.
- VeriSign has indemnification obligations related to its former Authentication Services business, subject to a $4.0 million aggregate threshold and a $50.0 million cap for specified claims.
- Principal business risks include dependence on .com and .net, ICANN and government agreement and pricing terms, domain registration and renewal trends, new-gTLD competition and execution, cyberattacks and service outages, and economic and regulatory uncertainty.
- The $6.4 million unrealized loss on the contingent-interest derivative contributed to the quarter’s $5.8 million net non-operating loss; the derivative liability rose to $17.6 million, primarily due to the increase in VeriSign’s share price.
Important facts for investors to verify
- Subsequent filings: note issuance terms, use of proceeds, and any further share repurchases or debt changes.
- Convertible-debenture holder conversion activity and the company’s cash-versus-stock settlement capacity.
- Trends in .com/.net registrations, renewal rates, fee realization, and the July 2013 .net price increase.
- Progress, timing, costs, and revenue potential for new gTLD applications and back-end registry contracts.
- Developments in the disclosed litigation and any changes to estimated contingencies.
- Cash held overseas, repatriation constraints, and the effect of debt service and buybacks on liquidity.