Business Context and Reporting Period
Teradata Corporation filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2012. The company provides data warehousing, big data analytics, integrated marketing management, digital marketing applications, consulting, and maintenance services. Its operating segments are the Americas, EMEA, and APJ.
Financial Performance and Position
| Metric | Q3 2012 | Q3 2011 | 9M 2012 | 9M 2011 |
|---|---|---|---|---|
| Total revenue | $647 million | $602 million | $1,925 million | $1,689 million |
| Product revenue | $306 million | $287 million | $935 million | $791 million |
| Service revenue | $341 million | $315 million | $990 million | $898 million |
| Gross margin | 55.8% | 54.5% | 56.2% | 54.4% |
| Operating income | $143 million | $122 million | $430 million | $323 million |
| Operating margin | 22.1% | 20.3% | 22.3% | 19.1% |
| Net income | $104 million | $87 million | $307 million | $255 million |
| Diluted EPS | $0.60 | $0.51 | $1.78 | $1.48 |
- Q3 revenue increased 7%; nine-month revenue increased 14%. Growth was led by EMEA and APJ in the quarter and by the Americas and APJ year to date.
- Q3 product revenue increased 7% and service revenue increased 8%. Nine-month product revenue increased 18% and service revenue increased 10%.
- Q3 gross margin expanded 130 basis points, primarily from improved product mix and product margins, particularly in EMEA. Product gross margin was 69.0%; service gross margin was 44.0%.
- Operating expenses were $218 million in Q3 and $651 million for the nine months. Higher selling expense reflected the strategic addition of sales headcount; year-to-date expenses also included higher engineering costs.
- Effective tax rates were 27% for Q3 2012 and 28% for the nine-month period. Management estimated a full-year 2012 effective tax rate of approximately 27%, assuming reinstatement of the U.S. federal R&D tax credit.
- Net cash provided by operating activities was $451 million for the first nine months, compared with $387 million in the prior-year period. Reported free cash flow, defined by Teradata as operating cash flow less property and equipment expenditures and capitalized software additions, was $342 million versus $300 million.
- Cash and cash equivalents were $909 million at September 30, 2012, compared with $772 million at December 31, 2011. Total current assets were $1,553 million and current liabilities were $694 million.
- Total debt consisted primarily of a $292 million term-loan principal balance carrying a 1.25% interest rate. The company had no borrowings under its new $300 million unsecured revolving credit facility, leaving the full capacity available.
- Investing cash outflows were $348 million, including $239 million for acquisitions and other investing activities, $49 million for property and equipment, and $60 million for capitalized software.
- The company repurchased approximately 0.6 million shares for $39 million during the first nine months and had approximately $299 million remaining under its general repurchase authorization.
Material Changes Versus Prior Comparable Period
- Q3 operating income increased 17% to $143 million, while net income increased 20% to $104 million.
- Nine-month operating income increased 33% to $430 million, and net income increased 20% to $307 million.
- Nine-month gross margin improved from 54.4% to 56.2%, with product gross margin increasing from 65.7% to 68.2% and service gross margin increasing modestly from 44.4% to 44.7%.
- Other income declined substantially: the company recorded $1 million of other expense in the first nine months of 2012 versus $25 million of other income in 2011. The prior-year amount included gains related to the Aster Data and Pliant Technology investments.
- Cash flow from operations increased by $64 million, while investing outflows declined from $809 million to $348 million because the prior-year period included the Aprimo and Aster Data acquisitions.
- Goodwill increased from $742 million at year-end 2011 to $933 million at September 30, 2012, primarily due to the eCircle acquisition. The valuation of acquired goodwill and intangible assets remained subject to review.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management maintained a positive long-term outlook based on continued growth in data volumes, analytics demand, and integrated and digital marketing opportunities.
- Management expected approximately two percentage points of adverse currency-translation impact on 2012 reported revenue and a corresponding impact on operating income, based on October 29, 2012 exchange rates. Q3 revenue growth was reported after a 3% adverse currency impact.
- Macroeconomic uncertainty and scrutiny of information-technology budgets could affect the timing and size of large customer orders. Future pricing pressure and customer migration to lower maintenance service levels could pressure revenue and margins.
- New sales territories may require more than two years to become fully productive, creating a potential delay between sales investment and revenue contribution.
- The company was in settlement discussions with the U.S. Department of Justice regarding investigations and related qui tam litigation involving federal contracts and pricing disclosures predating Teradata’s separation from NCR. Teradata accrued approximately $3 million for its current best estimate of probable liability and stated that it did not believe a material excess loss was reasonably possible, although no assurance was provided.
- The maximum obligation under equipment lease-value guarantees was $2 million at September 30, 2012. The warranty reserve was $7 million.
- Approximately $841 million of foreign earnings were considered permanently reinvested outside the United States; no U.S. federal tax liability had been provided for those earnings.
- Management stated that cash resources, operating cash flow, and available credit capacity should be sufficient for at least the next twelve months. The company remained in compliance with its credit-facility covenants.
- Foreign exchange forward-contract notional amounts totaled $98 million, or $27 million on a net basis; related fair values and gains or losses were not material.
Important Facts for Investors to Verify
- Verify the sustainability of product-mix-driven gross-margin expansion, particularly the strong EMEA and APJ product performance.
- Assess whether additional sales headcount and territory expansion generate sufficient revenue growth after the expected ramp period.
- Review the final purchase accounting for eCircle and any resulting changes to goodwill, acquired intangible assets, and amortization expense.
- Monitor currency movements, macroeconomic conditions, customer technology budgets, and maintenance-service levels.
- Confirm the resolution and ultimate financial exposure from the Department of Justice investigation and related False Claims Act matters.
- Evaluate liquidity after acquisitions, capitalized software investment, debt repayment, and share repurchases, including the terms and covenants of the term loan and revolving facility.
- Verify the tax-rate outlook, including the assumption that the expired U.S. federal R&D tax credit would be retroactively reinstated.